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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll apply a basic P/E ratio analysis to Allied Digital Services Limited's (NSE:ADSL), to help you decide if the stock is worth further research. Based on the last twelve months, Allied Digital Services's P/E ratio is 4.02. That means that at current prices, buyers pay ₹4.02 for every ₹1 in trailing yearly profits.
View our latest analysis for Allied Digital Services
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Allied Digital Services:
P/E of 4.02 = ₹14.25 ÷ ₹3.54 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each ₹1 the company has earned over the last year. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price.'
Does Allied Digital Services Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio indicates whether the market has higher or lower expectations of a company. If you look at the image below, you can see Allied Digital Services has a lower P/E than the average (12.4) in the it industry classification.
Allied Digital Services's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with Allied Digital Services, 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. 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.
In the last year, Allied Digital Services grew EPS like Taylor Swift grew her fan base back in 2010; the 78% gain was both fast and well deserved. The cherry on top is that the five year growth rate was an impressive 84% per year. With that kind of growth rate we would generally expect a high P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
The 'Price' in P/E reflects the market capitalization of the company. So it won't reflect the advantage of cash, or disadvantage of debt. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.