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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 Elastron S.A. – Steel Service Centers’s (ATH:ELSTR) P/E ratio to inform your assessment of the investment opportunity. Elastron – Steel Service Centers has a P/E ratio of 18.1, based on the last twelve months. In other words, at today’s prices, investors are paying €18.1 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 Elastron – Steel Service Centers:
P/E of 18.1 = €1.32 ÷ €0.073 (Based on the trailing twelve months 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
P/E ratios primarily reflect market expectations around earnings growth rates. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.
Elastron – Steel Service Centers increased earnings per share by a whopping 44% last year. And earnings per share have improved by 58% annually, over the last five years. I’d therefore be a little surprised if its P/E ratio was not relatively high.
How Does Elastron – Steel Service Centers’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 (8.5) for companies in the metals and mining industry is lower than Elastron – Steel Service Centers’s P/E.
Its relatively high P/E ratio indicates that Elastron – Steel Service Centers shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn’t guaranteed. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.
How Does Elastron – Steel Service Centers’s Debt Impact Its P/E Ratio?
Elastron – Steel Service Centers’s net debt is considerable, at 209% of its market cap. This level of debt justifies a relatively low P/E, so remain cognizant of the debt, if you’re comparing it to other stocks.
The Verdict On Elastron – Steel Service Centers’s P/E Ratio
Elastron – Steel Service Centers has a P/E of 18.1. That’s higher than the average in the GR market, which is 14. While the meaningful level of debt does limit its options, it has achieved solid growth over the last year. The relatively high P/E ratio suggests shareholders think growth will continue.
When the market is wrong about a stock, it gives savvy investors an opportunity. 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.’ Although we don’t have analyst forecasts, shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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.