This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll look at Compagnie Plastic Omnium SA's (EPA:POM) P/E ratio and reflect on what it tells us about the company's share price. Compagnie Plastic Omnium has a price to earnings ratio of 10.60, based on the last twelve months. In other words, at today's prices, investors are paying €10.60 for every €1 in prior year profit.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Compagnie Plastic Omnium:
P/E of 10.60 = €18.725 ÷ €1.766 (Based on the trailing twelve months to December 2019.)
(Note: the above calculation results may not be precise due to rounding.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each €1 of company earnings. That isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
How Does Compagnie Plastic Omnium's P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (9.4) for companies in the auto components industry is lower than Compagnie Plastic Omnium's P/E.
That means that the market expects Compagnie Plastic Omnium will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
If earnings fall then in the future the 'E' will be lower. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.
Compagnie Plastic Omnium saw earnings per share decrease by 51% last year. But EPS is up 3.0% over the last 5 years. And EPS is down 5.8% a year, over the last 3 years. This might lead to low expectations.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. That means it doesn't take debt or cash into account. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
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).
So What Does Compagnie Plastic Omnium's Balance Sheet Tell Us?
Compagnie Plastic Omnium's net debt is 22% of its market cap. This could bring some additional risk, and reduce the number of investment options for management; worth remembering if you compare its P/E to businesses without debt.
The Bottom Line On Compagnie Plastic Omnium's P/E Ratio
Compagnie Plastic Omnium's P/E is 10.6 which is below average (17.0) in the FR market. Since it only carries a modest debt load, it's likely the low expectations implied by the P/E ratio arise from the lack of recent earnings growth.
Investors should be looking to buy stocks that the market is wrong about. As value investor Benjamin Graham famously said, 'In the short run, the market is a voting machine but in the long run, it is a weighing machine. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
You might be able to find a better buy than Compagnie Plastic Omnium. 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).
If you spot an error that warrants correction, please contact the editor at email@example.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.
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