To the annoyance of some shareholders, FLSmidth (CPH:FLS) shares are down a considerable 45% in the last month. Indeed the recent decline has arguably caused some bitterness for shareholders who have held through the 55% drop over twelve months.

Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. 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.

View our latest analysis for FLSmidth

Does FLSmidth Have A Relatively High Or Low P/E For Its Industry?

FLSmidth's P/E of 8.54 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (12.0) for companies in the machinery industry is higher than FLSmidth's P/E.

This suggests that market participants think FLSmidth will underperform other companies in its industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.

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. That means even if the current P/E is high, it will reduce over time if the share price stays flat. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

FLSmidth saw earnings per share decrease by 3.1% last year. But it has grown its earnings per share by 10% per year over the last three years. And EPS is down 2.2% a year, over the last 5 years. So you wouldn't expect a very high P/E.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

The 'Price' in P/E reflects the market capitalization of the company. That means it doesn't take debt or cash into account. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.