Unfortunately for some shareholders, the Capstone Mining (TSE:CS) share price has dived 35% in the last thirty days. Even longer term holders have taken a real hit with the stock declining 28% in the last year.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that long term investors have an opportunity when expectations of a company are too low. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
Does Capstone Mining Have A Relatively High Or Low P/E For Its Industry?
Capstone Mining's P/E of 12.32 indicates some degree of optimism towards the stock. The image below shows that Capstone Mining has a higher P/E than the average (11.2) P/E for companies in the metals and mining industry.
Its relatively high P/E ratio indicates that Capstone Mining shareholders think it will perform better than other companies in its industry classification. The market is optimistic about the future, but that doesn't guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
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. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Capstone Mining increased earnings per share by a whopping 31% last year.
Remember: P/E Ratios Don't Consider The Balance Sheet
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 spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
How Does Capstone Mining's Debt Impact Its P/E Ratio?
Capstone Mining has net debt worth a very significant 117% of its market capitalization. This level of debt justifies a relatively low P/E, so remain cognizant of the debt, if you're comparing it to other stocks.
The Bottom Line On Capstone Mining's P/E Ratio
Capstone Mining trades on a P/E ratio of 12.3, which is fairly close to the CA market average of 11.6. The significant levels of debt do detract somewhat from the strong earnings growth. The P/E suggests the market isn't confident that growth will be sustained, though. What can be absolutely certain is that the market has become significantly less optimistic about Capstone Mining over the last month, with the P/E ratio falling from 19.0 back then to 12.3 today. For those who don't like to trade against momentum, that could be a warning sign, but a contrarian investor might want to take a closer look.
Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
But note: Capstone Mining 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).
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.
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