The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll show how you can use 1300SMILES Limited's (ASX:ONT) P/E ratio to inform your assessment of the investment opportunity. What is 1300SMILES's P/E ratio? Well, based on the last twelve months it is 18.57. That corresponds to an earnings yield of approximately 5.4%.
View our latest analysis for 1300SMILES
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for 1300SMILES:
P/E of 18.57 = A$6.09 ÷ A$0.33 (Based on the trailing twelve months to June 2019.)
Is A High P/E Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
Does 1300SMILES Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. As you can see below, 1300SMILES has a higher P/E than the average company (17) in the healthcare industry.
That means that the market expects 1300SMILES will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. 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
Probably the most important factor in determining what P/E a company trades on is the earnings growth. Earnings growth means that in the future the 'E' will be higher. That means even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
1300SMILES maintained roughly steady earnings over the last twelve months. But over the longer term (5 years) earnings per share have increased by 9.3%.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. So it won't reflect the advantage of cash, or disadvantage of debt. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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 1300SMILES's Balance Sheet Tell Us?
1300SMILES's net debt is 5.9% of its market cap. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.