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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll show how you can use Alumetal S.A.’s (WSE:AML) P/E ratio to inform your assessment of the investment opportunity. Alumetal has a P/E ratio of 7.09, based on the last twelve months. That means that at current prices, buyers pay PLN7.09 for every PLN1 in trailing yearly profits.
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Alumetal:
P/E of 7.09 = PLN44 ÷ PLN6.21 (Based on the year to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each PLN1 of company earnings. 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.
How Growth Rates Impact P/E Ratios
Companies that shrink earnings per share quickly will rapidly decrease the ‘E’ in the equation. That means even if the current P/E is low, it will increase over time if the share price stays flat. A higher P/E should indicate the stock is expensive relative to others — and that may encourage shareholders to sell.
Alumetal increased earnings per share by a whopping 58% last year. And earnings per share have improved by 11% annually, over the last five years. So we’d generally expect it to have a relatively high P/E ratio. Unfortunately, earnings per share are down 2.0% a year, over 3 years.
How Does Alumetal’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. As you can see below Alumetal has a P/E ratio that is fairly close for the average for the metals and mining industry, which is 6.7.
That indicates that the market expects Alumetal will perform roughly in line with other companies in its industry. If the company has better than average prospects, then the market might be underestimating it. Checking factors such as the tenure of the board and management could help you form your own view on if that will happen.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
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. Theoretically, a business can improve its earnings (and produce a lower P/E in the future), by taking on debt (or spending its remaining 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.
Alumetal’s Balance Sheet
Alumetal’s net debt is 18% of its market cap. That’s enough debt to impact the P/E ratio a little; so keep it in mind if you’re comparing it to companies without debt.
The Verdict On Alumetal’s P/E Ratio
Alumetal trades on a P/E ratio of 7.1, which is below the PL market average of 10.5. The company hasn’t stretched its balance sheet, and earnings growth was good last year. If the company can continue to grow earnings, then the current P/E may be unjustifiably low.
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. So this free visual report on analyst forecasts could hold they key to an excellent investment decision.
Of course you might be able to find a better stock than Alumetal. 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 firstname.lastname@example.org.