Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll look at Compagnie Plastic Omnium SA's (EPA:POM) P/E ratio and reflect on what it tells us about the company's share price. What is Compagnie Plastic Omnium's P/E ratio? Well, based on the last twelve months it is 7.88. In other words, at today's prices, investors are paying €7.88 for every €1 in prior year profit.
See our latest analysis for Compagnie Plastic Omnium
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Compagnie Plastic Omnium:
P/E of 7.88 = €24.95 ÷ €3.17 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each €1 of company 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.
How Does Compagnie Plastic Omnium's P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. We can see in the image below that the average P/E (9.3) for companies in the auto components industry is higher than Compagnie Plastic Omnium's P/E.
This suggests that market participants think Compagnie Plastic Omnium will underperform other companies in its industry. Many investors like to buy stocks when the market is pessimistic about their prospects. You should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
Probably the most important factor in determining what P/E a company trades on is the earnings growth. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Compagnie Plastic Omnium saw earnings per share improve by -9.2% last year. And its annual EPS growth rate over 5 years is 18%.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.