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 Ball Corporation's (NYSE:BLL) P/E ratio could help you assess the value on offer. Looking at earnings over the last twelve months, Ball has a P/E ratio of 43.53. That means that at current prices, buyers pay $43.53 for every $1 in trailing yearly profits.
How Do I Calculate Ball's Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Ball:
P/E of 43.53 = USD72.59 ÷ USD1.67 (Based on the trailing twelve months to September 2019.)
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.
Does Ball 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. The image below shows that Ball has a higher P/E than the average (18.5) P/E for companies in the packaging industry.
That means that the market expects Ball will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. When earnings grow, the 'E' increases, over time. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.
Ball increased earnings per share by a whopping 26% last year. And it has improved its earnings per share by 23% per year over the last three years. So we'd generally expect it to have a relatively high P/E ratio. Unfortunately, earnings per share are down 2.1% a year, over 5 years.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. Thus, the metric does not reflect cash or debt held by the company. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on 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.
Is Debt Impacting Ball's P/E?
Ball's net debt equates to 27% of its market capitalization. While it's worth keeping this in mind, it isn't a worry.
The Bottom Line On Ball's P/E Ratio
Ball has a P/E of 43.5. That's higher than the average in its market, which is 18.4. Its debt levels do not imperil its balance sheet and it is growing EPS strongly. So on this analysis it seems reasonable that its P/E ratio is above average.
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 report on the analyst consensus forecasts could help you make a master move on this stock.
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.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.
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