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The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we'll show how PG Electroplast Limited's (NSE:PGEL) P/E ratio could help you assess the value on offer. Looking at earnings over the last twelve months, PG Electroplast has a P/E ratio of 8.05. In other words, at today's prices, investors are paying ₹8.05 for every ₹1 in prior year profit.
See our latest analysis for PG Electroplast
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 PG Electroplast:
P/E of 8.05 = ₹48.65 ÷ ₹6.04 (Based on the year to March 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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.
Does PG Electroplast Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio indicates whether the market has higher or lower expectations of a company. If you look at the image below, you can see PG Electroplast has a lower P/E than the average (14.7) in the electronic industry classification.
PG Electroplast's P/E tells us that market participants think it will not fare as well as its peers in the same industry.
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. Earnings growth means that in the future the 'E' will be higher. 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.
It's nice to see that PG Electroplast grew EPS by a stonking 32% in the last year. And its annual EPS growth rate over 3 years is 73%. So we'd generally expect it to have a relatively high P/E ratio.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
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).
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).
PG Electroplast's Balance Sheet
PG Electroplast's net debt is considerable, at 118% of its market cap. This is a relatively high level of debt, so the stock probably deserves a relatively low P/E ratio. Keep that in mind when comparing it to other companies.
The Bottom Line On PG Electroplast's P/E Ratio
PG Electroplast has a P/E of 8.1. That's below the average in the IN market, which is 14.6. While the EPS growth last year was strong, the significant debt levels reduce the number of options available to management. If it continues to grow, then the current low P/E may prove to be unjustified.
When the market is wrong about a stock, it gives savvy investors an opportunity. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. Although we don't have analyst forecasts, shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.
You might be able to find a better buy than PG Electroplast. 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).
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.