Should You Be Tempted To Sell Somany Ceramics Limited (NSE:SOMANYCERA) Because Of Its P/E Ratio?

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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Somany Ceramics Limited’s (NSE:SOMANYCERA) P/E ratio could help you assess the value on offer. Somany Ceramics has a P/E ratio of 39.1, based on the last twelve months. That corresponds to an earnings yield of approximately 2.6%.

See our latest analysis for Somany Ceramics

How Do I Calculate Somany Ceramics’s Price To Earnings Ratio?

The formula for price to earnings is:

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

Or for Somany Ceramics:

P/E of 39.1 = ₹427.35 ÷ ₹10.93 (Based on the trailing twelve months to March 2019.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. 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

When earnings fall, the ‘E’ decreases, over time. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. A higher P/E should indicate the stock is expensive relative to others — and that may encourage shareholders to sell.

Somany Ceramics shrunk earnings per share by 34% over the last year. But EPS is up 5.8% over the last 5 years. And it has shrunk its earnings per share by 12% per year over the last three years. This growth rate might warrant a low P/E ratio.

Does Somany Ceramics Have A Relatively High Or Low P/E For Its Industry?

One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. You can see in the image below that the average P/E (20.4) for companies in the building industry is lower than Somany Ceramics’s P/E.

NSEI:SOMANYCERA Price Estimation Relative to Market, June 20th 2019
NSEI:SOMANYCERA Price Estimation Relative to Market, June 20th 2019

Its relatively high P/E ratio indicates that Somany Ceramics 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 delve deeper. I like to check if company insiders have been buying or selling.

Remember: P/E Ratios Don’t Consider The Balance Sheet

Don’t forget that the P/E ratio considers market capitalization. So it won’t reflect the advantage of cash, or disadvantage of debt. 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 Somany Ceramics’s Debt Impact Its P/E Ratio?

Somany Ceramics’s net debt equates to 26% of its market capitalization. While that’s enough to warrant consideration, it doesn’t really concern us.

The Bottom Line On Somany Ceramics’s P/E Ratio

Somany Ceramics trades on a P/E ratio of 39.1, which is above the IN market average of 15.7. With some debt but no EPS growth last year, the market has high expectations of future profits.

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.’ So this free visual report on analyst forecasts could hold the key to an excellent investment decision.

Of course you might be able to find a better stock than Somany Ceramics. So you may wish to see this free collection of other companies that have grown earnings strongly.

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.