Why Jakharia Fabric Limited’s (NSE:JAKHARIA) High P/E Ratio Isn’t Necessarily A Bad Thing

Today, we’ll introduce the concept of the P/E ratio for those who are learning about investing. We’ll show how you can use Jakharia Fabric Limited’s (NSE:JAKHARIA) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Jakharia Fabric has a P/E ratio of 19.87. That is equivalent to an earnings yield of about 5.0%.

See our latest analysis for Jakharia Fabric

How Do I Calculate A Price To Earnings Ratio?

The formula for price to earnings is:

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

Or for Jakharia Fabric:

P/E of 19.87 = ₹182.00 ÷ ₹9.16 (Based on the trailing twelve months to March 2019.)

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 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 Does Jakharia Fabric’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Jakharia Fabric has a higher P/E than the average (10.1) P/E for companies in the luxury industry.

NSEI:JAKHARIA Price Estimation Relative to Market, November 11th 2019
NSEI:JAKHARIA Price Estimation Relative to Market, November 11th 2019

Jakharia Fabric’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. 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. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. Then, a higher P/E might scare off shareholders, pushing the share price down.

Jakharia Fabric’s earnings made like a rocket, taking off 76% last year. Unfortunately, earnings per share are down 7.1% a year, over 5 years.

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. 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).

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 Jakharia Fabric’s P/E?

Jakharia Fabric has net debt equal to 32% of its market cap. You’d want to be aware of this fact, but it doesn’t bother us.

The Verdict On Jakharia Fabric’s P/E Ratio

Jakharia Fabric’s P/E is 19.9 which is above average (13.3) in its market. While the company does use modest debt, its recent earnings growth is superb. So to be frank we are not surprised it has a high P/E ratio.

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. We don’t have analyst forecasts, but shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.

Of course you might be able to find a better stock than Jakharia Fabric. 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.