This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Bet-At-Homecom AG’s (ETR:ACX) P/E ratio could help you assess the value on offer. Bet-At-Home.com has a price to earnings ratio of 14.56, based on the last twelve months. That corresponds to an earnings yield of approximately 6.9%.

View our latest analysis for Bet-At-Home.com

How Do I Calculate A Price To Earnings Ratio?

The formula for price to earnings is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Bet-At-Home.com:

P/E of 14.56 = €58.4 ÷ €4.01 (Based on the trailing twelve months to June 2018.)

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.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. 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.

Bet-At-Home.com shrunk earnings per share by 21% over the last year. But over the longer term (5 years) earnings per share have increased by 16%.

How Does Bet-At-Home.com’s P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Bet-At-Home.com has a P/E ratio that is roughly in line with the hospitality industry average (15.3).

That indicates that the market expects Bet-At-Home.com will perform roughly in line with other companies in its industry. So if Bet-At-Home.com actually outperforms its peers going forward, that should be a positive for the share price. Checking factors such as the tenure of the board and management could help you form your own view on if that will happen.

Remember: P/E Ratios Don’t Consider The Balance Sheet

The ‘Price’ in P/E reflects the market capitalization of the company. 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 taking on debt (or spending its remaining cash).

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 Bet-At-Home.com’s P/E?

Since Bet-At-Home.com holds net cash of €62m, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Bottom Line On Bet-At-Home.com’s P/E Ratio

Bet-At-Home.com trades on a P/E ratio of 14.6, which is below the DE market average of 18.1. The recent drop in earnings per share would make investors cautious, the healthy balance sheet means the company retains potential for future growth. If that occurs, the current low P/E could prove to be temporary.

When the market is wrong about a stock, it gives savvy investors an opportunity. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. 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 be able to find a better stock than Bet-At-Home.com. So you may wish to see this free collection of other companies that have grown earnings strongly.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.