The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll show how you can use Jamna Auto Industries Limited’s (NSE:JAMNAAUTO) P/E ratio to inform your assessment of the investment opportunity. Jamna Auto Industries has a price to earnings ratio of 16.77, based on the last twelve months. That is equivalent to an earnings yield of about 6.0%.

See our latest analysis for Jamna Auto Industries

How Do I Calculate Jamna Auto Industries’s Price To Earnings Ratio?

The formula for price to earnings is:

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

Or for Jamna Auto Industries:

P/E of 16.77 = ₹64.8 ÷ ₹3.86 (Based on the year to September 2018.)

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.

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.

Notably, Jamna Auto Industries grew EPS by a whopping 48% in the last year. And it has bolstered its earnings per share by 43% per year over the last five years. With that performance, I would expect it to have an above average P/E ratio.

How Does Jamna Auto Industries’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (18.1) for companies in the auto components industry is roughly the same as Jamna Auto Industries’s P/E.

Jamna Auto Industries’s P/E tells us that market participants think its prospects are roughly in line with its industry. The company could surprise by performing better than average, in the future. I inform my view byby checking management tenure and remuneration, among other things.

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

Don’t forget that the P/E ratio considers market capitalization. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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 Jamna Auto Industries’s P/E?

Jamna Auto Industries’s net debt is 8.8% of its market cap. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.

The Bottom Line On Jamna Auto Industries’s P/E Ratio

Jamna Auto Industries’s P/E is 16.8 which is about average (17.1) in the IN market. With only modest debt levels, and strong earnings growth, the market seems to doubt that the growth can be maintained. Since analysts are predicting growth will continue, one might expect to see a higher P/E so it may be worth looking closer.

Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free report on the analyst consensus forecasts could help you make a master move on this stock.

Of course you might be able to find a better stock than Jamna Auto Industries. 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.