Yahoo Finance How Does Descartes Systems Group's (TSE:DSG) P/E Compare To Its Industry, After The Share Price Drop?
To the annoyance of some shareholders, Descartes Systems Group (TSE:DSG) shares are down a considerable 30% in the last month. The recent drop has obliterated the annual return, with the share price now down 8.4% over that longer period.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. So, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. One way to gauge market expectations of a stock 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.
View our latest analysis for Descartes Systems Group
Does Descartes Systems Group Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 68.60 that there is some investor optimism about Descartes Systems Group. As you can see below, Descartes Systems Group has a much higher P/E than the average company (13.9) in the software industry.
That means that the market expects Descartes Systems Group will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So investors should delve deeper. I like to check if company insiders have been buying or 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. Earnings growth means that in the future the 'E' will be higher. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Descartes Systems Group increased earnings per share by an impressive 11% over the last twelve months. And earnings per share have improved by 16% annually, over the last five years. With that performance, you might expect an above average P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. 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 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.
So What Does Descartes Systems Group's Balance Sheet Tell Us?
Since Descartes Systems Group holds net cash of US$44m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Bottom Line On Descartes Systems Group's P/E Ratio
Descartes Systems Group's P/E is 68.6 which suggests the market is more focussed on the future opportunity rather than the current level of earnings. Its strong balance sheet gives the company plenty of resources for extra growth, and it has already proven it can grow. So it is not surprising the market is probably extrapolating recent growth well into the future, reflected in the relatively high P/E ratio. Given Descartes Systems Group's P/E ratio has declined from 98.3 to 68.6 in the last month, we know for sure that the market is significantly less confident about the business today, than it was back then. 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 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.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.
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. Thank you for reading.
