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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we'll show how Nitin Spinners Limited's (NSE:NITINSPIN) P/E ratio could help you assess the value on offer. Based on the last twelve months, Nitin Spinners's P/E ratio is 7.99. In other words, at today's prices, investors are paying ₹7.99 for every ₹1 in prior year profit.
View our latest analysis for Nitin Spinners
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Nitin Spinners:
P/E of 7.99 = ₹87 ÷ ₹10.89 (Based on the year to December 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. 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.'
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
Nitin Spinners saw earnings per share decrease by 3.4% last year. But over the longer term (5 years) earnings per share have increased by 9.7%.
How Does Nitin Spinners's P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. We can see in the image below that the average P/E (12.3) for companies in the luxury industry is higher than Nitin Spinners's P/E.
Nitin Spinners'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 Nitin Spinners, 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.
Remember: P/E Ratios Don't Consider The Balance Sheet
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. 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.