In This Article:
The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll look at CARE Ratings Limited's (NSE:CARERATING) P/E ratio and reflect on what it tells us about the company's share price. Looking at earnings over the last twelve months, CARE Ratings has a P/E ratio of 12.37. That is equivalent to an earnings yield of about 8.1%.
Check out our latest analysis for CARE Ratings
How Do You Calculate CARE Ratings's P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for CARE Ratings:
P/E of 12.37 = ₹527.25 ÷ ₹42.64 (Based on the year 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 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 CARE Ratings Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio essentially measures market expectations of a company. We can see in the image below that the average P/E (15.9) for companies in the capital markets industry is higher than CARE Ratings's P/E.
CARE Ratings's P/E tells us that market participants think it will not fare as well as its peers in the same industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. 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. When earnings grow, the 'E' increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
CARE Ratings's earnings per share fell by 17% in the last twelve months. But EPS is up 1.2% over the last 3 years. And over the longer term (5 years) earnings per share have decreased 1.1% annually. This might lead to muted expectations.
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. 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 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.