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The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll show how you can use IRadimed Corporation’s (NASDAQ:IRMD) P/E ratio to inform your assessment of the investment opportunity. What is IRadimed’s P/E ratio? Well, based on the last twelve months it is 26.85. In other words, at today’s prices, investors are paying $26.85 for every $1 in prior year profit.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for IRadimed:
P/E of 26.85 = $18.06 ÷ $0.67 (Based on the trailing twelve months to March 2019.)
Is A High Price-to-Earnings Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
Does IRadimed Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. The image below shows that IRadimed has a lower P/E than the average (41) P/E for companies in the medical equipment industry.
Its relatively low P/E ratio indicates that IRadimed shareholders think it will struggle to do as well as other companies in its industry classification.
How Growth Rates Impact P/E Ratios
Companies that shrink earnings per share quickly will rapidly decrease the ‘E’ in the equation. That means even if the current P/E is low, it will increase over time if the share price stays flat. A higher P/E should indicate the stock is expensive relative to others — and that may encourage shareholders to sell.
IRadimed’s 353% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. The sweetener is that the annual five year growth rate of 21% is also impressive. So I’d be surprised if the P/E ratio was not above average. Unfortunately, earnings per share are down 3.7% a year, over 3 years.
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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. 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 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.
So What Does IRadimed’s Balance Sheet Tell Us?
With net cash of US$35m, IRadimed has a very strong balance sheet, which may be important for its business. Having said that, at 18% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.
The Verdict On IRadimed’s P/E Ratio
IRadimed has a P/E of 26.8. That’s higher than the average in its market, which is 18. Its net cash position is the cherry on top of its superb EPS growth. So based on this analysis we’d expect IRadimed to have a high P/E ratio.
When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth — so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
But note: IRadimed 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).
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 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. Thank you for reading.