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Today, we’ll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we’ll show how Applied Industrial Technologies, Inc.’s (NYSE:AIT) P/E ratio could help you assess the value on offer. Applied Industrial Technologies has a P/E ratio of 15.35, based on the last twelve months. That means that at current prices, buyers pay $15.35 for every $1 in trailing yearly profits.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Applied Industrial Technologies:
P/E of 15.35 = $57.34 ÷ $3.74 (Based on the trailing twelve months to March 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 Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. 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. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Applied Industrial Technologies saw earnings per share decrease by 5.9% last year. But over the longer term (5 years) earnings per share have increased by 6.4%.
Does Applied Industrial Technologies Have A Relatively High Or Low P/E For Its Industry?
We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Applied Industrial Technologies has a P/E ratio that is roughly in line with the trade distributors industry average (15.4).
Applied Industrial Technologies’s P/E tells us that market participants think its prospects are roughly in line with its industry. The company could surprise by performing better than average, in the future. Checking factors such as the tenure of the board and management could help you form your own view on if that will happen.
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. So it won’t reflect the advantage of cash, or disadvantage of debt. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its 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.
So What Does Applied Industrial Technologies’s Balance Sheet Tell Us?
Net debt is 42% of Applied Industrial Technologies’s market cap. You’d want to be aware of this fact, but it doesn’t bother us.
The Bottom Line On Applied Industrial Technologies’s P/E Ratio
Applied Industrial Technologies trades on a P/E ratio of 15.3, which is below the US market average of 17.4. The debt levels are not a major concern, but the lack of EPS growth is likely weighing on sentiment.
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 report on the analyst consensus forecasts could help you make a master move on this stock.
Of course you might be able to find a better stock than Applied Industrial Technologies. 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.