To the annoyance of some shareholders, Ramsay Health Care (ASX:RHC) shares are down a considerable 32% in the last month. Even longer term holders have taken a real hit with the stock declining 15% in the last year.

Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). So, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.

Check out our latest analysis for Ramsay Health Care

Does Ramsay Health Care Have A Relatively High Or Low P/E For Its Industry?

Ramsay Health Care's P/E of 20.99 indicates some degree of optimism towards the stock. As you can see below, Ramsay Health Care has a higher P/E than the average company (13.0) in the healthcare industry.

Ramsay Health Care's P/E tells us that market participants think the company will perform better than its industry peers, going forward. Clearly the market expects growth, but it isn't guaranteed. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. When earnings grow, the 'E' increases, over time. 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.

Ramsay Health Care increased earnings per share by a whopping 31% last year. And it has bolstered its earnings per share by 10% per year over the last five years. So we'd generally expect it to have a relatively high P/E ratio.

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

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. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.