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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Marine Products Corporation’s (NYSE:MPX) P/E ratio could help you assess the value on offer. Based on the last twelve months, Marine Products’s P/E ratio is 16.76. That is equivalent to an earnings yield of about 6.0%.
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Marine Products:
P/E of 16.76 = $13.83 ÷ $0.83 (Based on the year to December 2018.)
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. All else being equal, it’s better to pay a low price — but as Warren Buffett said, ‘It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.’
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 even if the current P/E is high, it will reduce over time if the share price stays flat. Then, a lower P/E should attract more buyers, pushing the share price up.
It’s nice to see that Marine Products grew EPS by a stonking 49% in the last year. And its annual EPS growth rate over 5 years is 26%. So we’d generally expect it to have a relatively high P/E ratio.
How Does Marine Products’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Marine Products has a P/E ratio that is roughly in line with the leisure industry average (16.2).
Its P/E ratio suggests that Marine Products shareholders think that in the future it will perform about the same as other companies in its industry classification. If the company has better than average prospects, then the market might be underestimating it. 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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
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.
Marine Products’s Balance Sheet
Marine Products has net cash of US$12m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Verdict On Marine Products’s P/E Ratio
Marine Products’s P/E is 16.8 which is about average (16.9) in the US market. Considering its recent growth, alongside its lack of debt, it would appear that the market isn’t very excited about the future.
When the market is wrong about a stock, it gives savvy investors an opportunity. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. 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 Marine Products. So you may wish to see this free collection of other companies that have grown earnings strongly.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.