This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll show how you can use SolarEdge Technologies Inc’s (NASDAQ:SEDG) P/E ratio to inform your assessment of the investment opportunity. SolarEdge Technologies has a price to earnings ratio of 13.17, based on the last twelve months. That corresponds to an earnings yield of approximately 7.6%.
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 SolarEdge Technologies:
P/E of 13.17 = $39.98 ÷ $3.04 (Based on the trailing twelve months to September 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. 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
Earnings growth rates have a big influence on P/E ratios. When earnings grow, the ‘E’ increases, over time. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
It’s nice to see that SolarEdge Technologies grew EPS by a stonking 70% in the last year. And earnings per share have improved by 76% annually, over the last five years. So we’d generally expect it to have a relatively high P/E ratio.
How Does SolarEdge Technologies’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. We can see in the image below that the average P/E (18.8) for companies in the semiconductor industry is higher than SolarEdge Technologies’s P/E.
SolarEdge Technologies’s P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with SolarEdge Technologies, it’s quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.
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. 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.
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.
SolarEdge Technologies’s Balance Sheet
SolarEdge Technologies has net cash of US$349m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Bottom Line On SolarEdge Technologies’s P/E Ratio
SolarEdge Technologies has a P/E of 13.2. That’s below the average in the US market, which is 17.9. The net cash position gives plenty of options to the business, and the recent improvement in EPS is good to see. The relatively low P/E ratio implies the market is pessimistic.
Investors have an opportunity when market expectations about a stock are wrong. 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.
But note: SolarEdge Technologies 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).
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 firstname.lastname@example.org.