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Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll show how you can use The Star Entertainment Group Limited's (ASX:SGR) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Star Entertainment Group has a P/E ratio of 21.31. In other words, at today's prices, investors are paying A$21.31 for every A$1 in prior year profit.
Check out our latest analysis for Star Entertainment Group
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Star Entertainment Group:
P/E of 21.31 = A$4.60 ÷ A$0.22 (Based on the trailing twelve months to June 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each A$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.
Does Star Entertainment Group Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. We can see in the image below that the average P/E (24.6) for companies in the hospitality industry is higher than Star Entertainment Group's P/E.
Its relatively low P/E ratio indicates that Star Entertainment Group shareholders think it will struggle to do as well as other companies in its industry classification. 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
If earnings fall then in the future the 'E' will be lower. That means unless the share price falls, the P/E will increase in a few years. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
It's great to see that Star Entertainment Group grew EPS by 23% in the last year. And it has bolstered its earnings per share by 11% per year over the last five years. This could arguably justify a relatively high P/E ratio. In contrast, EPS has decreased by 2.9%, annually, over 3 years.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. 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.