Despite Its High P/E Ratio, Is Flowers Foods, Inc. (NYSE:FLO) Still Undervalued?

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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Flowers Foods, Inc.’s (NYSE:FLO) P/E ratio could help you assess the value on offer. Looking at earnings over the last twelve months, Flowers Foods has a P/E ratio of 28.77. That is equivalent to an earnings yield of about 3.5%.

See our latest analysis for Flowers Foods

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 Flowers Foods:

P/E of 28.77 = $23.41 ÷ $0.81 (Based on the year to April 2019.)

Is A High P/E 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.

Does Flowers Foods Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (25.8) for companies in the food industry is lower than Flowers Foods’s P/E.

NYSE:FLO Price Estimation Relative to Market, July 17th 2019
NYSE:FLO Price Estimation Relative to Market, July 17th 2019

Its relatively high P/E ratio indicates that Flowers Foods shareholders think it will perform better than other companies in its industry classification.

How Growth Rates Impact P/E Ratios

When earnings fall, the ‘E’ decreases, over time. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.

Flowers Foods increased earnings per share by an impressive 21% over the last twelve months. But earnings per share are down 1.2% per year over the last five years.

Remember: P/E Ratios Don’t Consider The Balance Sheet

The ‘Price’ in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in 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.

So What Does Flowers Foods’s Balance Sheet Tell Us?

Flowers Foods’s net debt is 20% of its market cap. That’s enough debt to impact the P/E ratio a little; so keep it in mind if you’re comparing it to companies without debt.

The Verdict On Flowers Foods’s P/E Ratio

Flowers Foods’s P/E is 28.8 which is above average (18) in its market. While the company does use modest debt, its recent earnings growth is very good. So on this analysis it seems reasonable that its P/E ratio is above average.

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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

You might be able to find a better buy than Flowers Foods. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

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 editorial-team@simplywallst.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. Thank you for reading.