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To the annoyance of some shareholders, Signify (AMS:LIGHT) shares are down a considerable 43% in the last month. The recent drop has obliterated the annual return, with the share price now down 24% over that longer period.
All else being equal, a share price drop should make a stock more attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. The implication here is that long term investors have an opportunity when expectations of a company are too low. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
Check out our latest analysis for Signify
Does Signify Have A Relatively High Or Low P/E For Its Industry?
Signify's P/E of 8.40 indicates relatively low sentiment towards the stock. If you look at the image below, you can see Signify has a lower P/E than the average (15.9) in the electrical industry classification.
This suggests that market participants think Signify will underperform other companies in its industry. Since the market seems unimpressed with Signify, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and 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. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. 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.
Signify's earnings per share grew by 6.2% in the last twelve months. And earnings per share have improved by 18% annually, over the last three years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
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.