Unfortunately for some shareholders, the American Outdoor Brands (NASDAQ:AOBC) share price has dived 31% in the last thirty days. The recent drop has obliterated the annual return, with the share price now down 24% over that longer period.
All else being equal, a share price drop should make a stock more attractive to potential investors. 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). So, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. Perhaps the simplest way to get a read on investors' expectations of a business 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.
How Does American Outdoor Brands's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 26.53 that there is some investor optimism about American Outdoor Brands. The image below shows that American Outdoor Brands has a higher P/E than the average (13.4) P/E for companies in the leisure industry.
That means that the market expects American Outdoor Brands will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
How Growth Rates Impact P/E Ratios
Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. That means unless the share price falls, the P/E will increase in a few years. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.
American Outdoor Brands's earnings per share fell by 10% in the last twelve months. And it has shrunk its earnings per share by 23% per year over the last five years. This growth rate might warrant a below average P/E ratio.
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. 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.
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.
Is Debt Impacting American Outdoor Brands's P/E?
American Outdoor Brands's net debt equates to 39% of its market capitalization. You'd want to be aware of this fact, but it doesn't bother us.
The Verdict On American Outdoor Brands's P/E Ratio
American Outdoor Brands has a P/E of 26.5. That's higher than the average in its market, which is 13.4. With some debt but no EPS growth last year, the market has high expectations of future profits. Given American Outdoor Brands's P/E ratio has declined from 38.4 to 26.5 in the last month, we know for sure that the market is significantly less confident 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 a contrarian, it may signal opportunity.
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: American Outdoor Brands 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).
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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