Should We Worry About The Coca-Cola Company’s (NYSE:KO) P/E Ratio?

This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll look at The Coca-Cola Company’s (NYSE:KO) P/E ratio and reflect on what it tells us about the company’s share price. Coca-Cola has a price to earnings ratio of 90.48, based on the last twelve months. That is equivalent to an earnings yield of about 1.1%.

See our latest analysis for Coca-Cola

How Do You Calculate Coca-Cola’s P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Coca-Cola:

P/E of 90.48 = $45.92 ÷ $0.51 (Based on the trailing twelve months to June 2018.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that buyers have to pay a higher price for each $1 the company has earned over the last year. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

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. Then, a higher P/E might scare off shareholders, pushing the share price down.

Coca-Cola saw earnings per share decrease by 48% last year. And over the longer term (5 years) earnings per share have decreased 20% annually. This could justify a pessimistic P/E.

How Does Coca-Cola’s P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Coca-Cola has a significantly higher P/E than the average (26.9) P/E for companies in the beverage industry.

NYSE:KO PE PEG Gauge October 30th 18
NYSE:KO PE PEG Gauge October 30th 18

Its relatively high P/E ratio indicates that Coca-Cola shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn’t guaranteed. So further research is always essential. I often monitor director buying and selling.

Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits

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. Theoretically, a business can improve its earnings (and produce a lower P/E in the future), by taking on debt (or spending its remaining cash).

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

How Does Coca-Cola’s Debt Impact Its P/E Ratio?

Coca-Cola has net debt worth 14% of its market capitalization. This could bring some additional risk, and reduce the number of investment options for management; worth remembering if you compare its P/E to businesses without debt.

The Bottom Line On Coca-Cola’s P/E Ratio

Coca-Cola has a P/E of 90.5. That’s significantly higher than the average in the US market, which is 18.1. With some debt but no EPS growth last year, the market has high expectations of future profits.

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.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

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 editorial-team@simplywallst.com.