In This Article:
The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we'll show how Cogent Communications Holdings, Inc.'s (NASDAQ:CCOI) P/E ratio could help you assess the value on offer. Based on the last twelve months, Cogent Communications Holdings's P/E ratio is 77.19. In other words, at today's prices, investors are paying $77.19 for every $1 in prior year profit.
Check out our latest analysis for Cogent Communications Holdings
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Cogent Communications Holdings:
P/E of 77.19 = $62.99 ÷ $0.82 (Based on the trailing twelve months to September 2019.)
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 isn't a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business's prospects, relative to stocks with a lower P/E.
How Does Cogent Communications Holdings's P/E Ratio Compare To Its Peers?
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, Cogent Communications Holdings has a much higher P/E than the average company (16.5) in the telecom industry.
That means that the market expects Cogent Communications Holdings will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. 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. And in that case, the P/E ratio itself will drop rather quickly. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Cogent Communications Holdings's earnings made like a rocket, taking off 140% last year. And earnings per share have improved by 39% annually, over the last three years. So we'd absolutely expect it to have a relatively high P/E ratio. Unfortunately, earnings per share are down 6.8% a year, over 5 years.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The 'Price' in P/E reflects the market capitalization of the company. In other words, it does not consider any debt or cash that the company may have on the balance sheet. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.