Despite Its High P/E Ratio, Is Neste Oyj (HEL:NESTE) Still Undervalued?

Today, we’ll introduce the concept of the P/E ratio for those who are learning about investing. We’ll apply a basic P/E ratio analysis to Neste Oyj’s (HEL:NESTE), to help you decide if the stock is worth further research. Based on the last twelve months, Neste Oyj’s P/E ratio is 32.6. In other words, at today’s prices, investors are paying €32.6 for every €1 in prior year profit.

Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!

View our latest analysis for Neste Oyj

How Do I Calculate Neste Oyj’s Price To Earnings Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Neste Oyj:

P/E of 32.6 = €30.75 ÷ €0.94 (Based on the trailing twelve months to March 2019.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

How Growth Rates Impact P/E Ratios

Earnings growth rates have a big influence on P/E ratios. Earnings growth means that in the future the ‘E’ will be higher. And in that case, the P/E ratio itself will drop rather quickly. Then, a lower P/E should attract more buyers, pushing the share price up.

Neste Oyj saw earnings per share decrease by 32% last year. But over the longer term (5 years) earnings per share have increased by 7.7%.

Does Neste Oyj Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio indicates whether the market has higher or lower expectations of a company. As you can see below, Neste Oyj has a much higher P/E than the average company (10.4) in the oil and gas industry.

HLSE:NESTE Price Estimation Relative to Market, May 17th 2019
HLSE:NESTE Price Estimation Relative to Market, May 17th 2019

That means that the market expects Neste Oyj will outperform other companies in its industry. The market is optimistic about the future, but that doesn’t guarantee future growth. So further research is always essential. I often monitor director buying and selling.

Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits

Don’t forget that the P/E ratio considers market capitalization. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

How Does Neste Oyj’s Debt Impact Its P/E Ratio?

Neste Oyj has net debt worth just 0.3% of its market capitalization. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.

The Verdict On Neste Oyj’s P/E Ratio

Neste Oyj has a P/E of 32.6. That’s higher than the average in the FI market, which is 19.8. With modest debt but no EPS growth in the last year, it’s fair to say the P/E implies some optimism about future earnings, from the market.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.

You might be able to find a better buy than Neste Oyj. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.