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Today, we’ll introduce the concept of the P/E ratio for those who are learning about investing. We’ll look at Riverview Bancorp, Inc.’s (NASDAQ:RVSB) P/E ratio and reflect on what it tells us about the company’s share price. Based on the last twelve months, Riverview Bancorp’s P/E ratio is 10.06. That corresponds to an earnings yield of approximately 9.9%.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Riverview Bancorp:
P/E of 10.06 = $7.69 ÷ $0.76 (Based on the trailing twelve months to March 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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
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. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.
Riverview Bancorp’s 68% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. Even better, EPS is up 39% per year over three years. So you might say it really deserves to have an above-average P/E ratio. Unfortunately, earnings per share are down 2.5% a year, over 5 years.
Does Riverview Bancorp Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio essentially measures market expectations of a company. The image below shows that Riverview Bancorp has a lower P/E than the average (14.4) P/E for companies in the mortgage industry.
This suggests that market participants think Riverview Bancorp will underperform other companies in its industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. In other words, it does not consider any debt or cash that the company may have on the balance sheet. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.
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.
So What Does Riverview Bancorp’s Balance Sheet Tell Us?
Riverview Bancorp has net debt equal to 35% of its market cap. While it’s worth keeping this in mind, it isn’t a worry.
The Bottom Line On Riverview Bancorp’s P/E Ratio
Riverview Bancorp has a P/E of 10.1. That’s below the average in the US market, which is 17.8. The company hasn’t stretched its balance sheet, and earnings growth was good last year. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue.
Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
You might be able to find a better buy than Riverview Bancorp. 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 firstname.lastname@example.org. 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.