This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll show how you can use Rush Enterprises, Inc.’s (NASDAQ:RUSH.B) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Rush Enterprises has a P/E ratio of 8.8. That corresponds to an earnings yield of approximately 11%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Rush Enterprises:
P/E of 8.8 = $38.9 ÷ $4.42 (Based on the trailing twelve months to June 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 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 Does Rush Enterprises’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. The image below shows that Rush Enterprises has a lower P/E than the average (16.7) P/E for companies in the trade distributors industry.
This suggests that market participants think Rush Enterprises will underperform other companies in its industry.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company’s P/E multiple. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Rush Enterprises saw earnings per share decrease by 5.8% last year. But over the longer term (5 years) earnings per share have increased by 23%.
Remember: P/E Ratios Don’t Consider The Balance Sheet
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn’t take debt or cash into account. 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.
While growth expenditure doesn’t always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
Rush Enterprises’s Balance Sheet
Net debt totals a substantial 132% of Rush Enterprises’s market cap. If you want to compare its P/E ratio to other companies, you must keep in mind that these debt levels would usually warrant a relatively low P/E.
The Verdict On Rush Enterprises’s P/E Ratio
Rush Enterprises’s P/E is 8.8 which is below average (17.7) in the US market. When you consider that the company has significant debt, and didn’t grow EPS last year, it isn’t surprising that the market has muted expectations.
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 Rush Enterprises. So you may wish to see this free collection of other companies that have grown earnings strongly.
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.