To the annoyance of some shareholders, Simonds Group (ASX:SIO) shares are down a considerable 32% in the last month. The recent drop has obliterated the annual return, with the share price now down 28% over that longer period.

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. 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.

See our latest analysis for Simonds Group

How Does Simonds Group's P/E Ratio Compare To Its Peers?

We can tell from its P/E ratio of 4.03 that sentiment around Simonds Group isn't particularly high. We can see in the image below that the average P/E (10.7) for companies in the consumer durables industry is higher than Simonds Group's P/E.

Simonds Group's P/E tells us that market participants think it will not fare as well as its peers in the same industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. You should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

Earnings growth rates have a big influence on P/E ratios. 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. Then, a lower P/E should attract more buyers, pushing the share price up.

Simonds Group shrunk earnings per share by 8.6% last year.

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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).

While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.

How Does Simonds Group's Debt Impact Its P/E Ratio?

With net cash of AU$13m, Simonds Group has a very strong balance sheet, which may be important for its business. Having said that, at 33% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.