This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll show how you can use Elve S.A.’s (ATH:ELBE) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Elve’s P/E ratio is 23.18. That corresponds to an earnings yield of approximately 4.3%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Elve:
P/E of 23.18 = €3.6 ÷ €0.16 (Based on the year to June 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each €1 the company has earned over the last year. That isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.
How Growth Rates Impact P/E Ratios
Probably the most important factor in determining what P/E a company trades on is the earnings growth. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Elve’s earnings per share fell by 33% in the last twelve months. But it has grown its earnings per share by 39% per year over the last five years.
How Does Elve’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. The image below shows that Elve has a higher P/E than the average (16.7) P/E for companies in the luxury industry.
That means that the market expects Elve 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.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The ‘Price’ in P/E reflects the market capitalization of the company. In other words, it does not consider any debt or cash that the company may have on the balance sheet. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
Is Debt Impacting Elve’s P/E?
Since Elve holds net cash of €4.1m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Bottom Line On Elve’s P/E Ratio
Elve has a P/E of 23.2. That’s higher than the average in the GR market, which is 12.7. Falling earnings per share is probably keeping traditional value investors away, but the net cash position means the company has time to improve: and the high P/E suggests the market thinks it will.
When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth — so investors can make money when fast growth is not fully appreciated. We don’t have analyst forecasts, but you might want to assess this data-rich visualization of earnings, revenue and cash flow.
Of course you might be able to find a better stock than Elve. So you may wish to see this free collection of other companies that have grown earnings strongly.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.