Unfortunately for some shareholders, the TowneBank (NASDAQ:TOWN) share price has dived 29% in the last thirty days. The recent drop has obliterated the annual return, with the share price now down 27% over that longer period.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that long term investors have an opportunity when expectations of a company are too low. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
Does TowneBank Have A Relatively High Or Low P/E For Its Industry?
TowneBank’s P/E is 9.40. You can see in the image below that the average P/E (9.0) for companies in the banks industry is roughly the same as TowneBank’s P/E.
TowneBank’s P/E tells us that market participants think its prospects are roughly in line with its industry. So if TowneBank actually outperforms its peers going forward, that should be a positive for the share price. I would further inform my view by checking insider buying and selling., among other things.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. When earnings grow, the ‘E’ increases, over time. 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.
TowneBank increased earnings per share by 2.4% last year. And it has bolstered its earnings per share by 10% per year over the last five years.
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. 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.
So What Does TowneBank’s Balance Sheet Tell Us?
TowneBank’s net debt equates to 28% of its market capitalization. While that’s enough to warrant consideration, it doesn’t really concern us.
The Verdict On TowneBank’s P/E Ratio
TowneBank has a P/E of 9.4. That’s below the average in the US market, which is 13.4. The company does have a little debt, and EPS is moving in the right direction. If growth is sustainable over the long term, then the current P/E ratio may be a sign of good value. Given TowneBank’s P/E ratio has declined from 13.3 to 9.4 in the last month, we know for sure that the market is more worried about the business today, than it was back then. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for deep value investors this stock might justify some research.
Investors should be looking to buy stocks that the market is wrong about. 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 TowneBank. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you spot an error that warrants correction, please contact the editor at email@example.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.
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