The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll look at Fastenal Company’s (NASDAQ:FAST) P/E ratio and reflect on what it tells us about the company’s share price. Based on the last twelve months, Fastenal’s P/E ratio is 23.77. That means that at current prices, buyers pay $23.77 for every $1 in trailing yearly profits.
How Do You Calculate Fastenal’s P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Fastenal:
P/E of 23.77 = $62.28 ÷ $2.62 (Based on the trailing twelve months to December 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each $1 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
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. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.
Notably, Fastenal grew EPS by a whopping 30% in the last year. And it has bolstered its earnings per share by 9.4% per year over the last five years. So we’d generally expect it to have a relatively high P/E ratio.
How Does Fastenal’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. As you can see below, Fastenal has a higher P/E than the average company (13.8) in the trade distributors industry.
That means that the market expects Fastenal will outperform other companies in its industry. Clearly the market expects growth, but it isn’t guaranteed. So further research is always essential. I often monitor director buying and selling.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
Don’t forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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).
How Does Fastenal’s Debt Impact Its P/E Ratio?
Net debt totals just 1.9% of Fastenal’s market cap. So it doesn’t have as many options as it would with net cash, but its debt would not have much of an impact on its P/E ratio.
The Verdict On Fastenal’s P/E Ratio
Fastenal has a P/E of 23.8. That’s higher than the average in the US market, which is 17.6. While the company does use modest debt, its recent earnings growth is impressive. Therefore it seems reasonable that the market would have relatively high expectations of the company
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
But note: Fastenal may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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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.