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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll show how you can use Wheels India Limited’s (NSE:WHEELS) P/E ratio to inform your assessment of the investment opportunity. Wheels India has a price to earnings ratio of 28.49, based on the last twelve months. That means that at current prices, buyers pay ₹28.49 for every ₹1 in trailing yearly profits.
See our latest analysis for Wheels India
How Do I Calculate Wheels India’s Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Wheels India:
P/E of 28.49 = ₹888.85 ÷ ₹31.2 (Based on the year to March 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each ₹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.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. Earnings growth means that in the future the ‘E’ will be higher. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Notably, Wheels India grew EPS by a whopping 27% in the last year. And earnings per share have improved by 17% annually, over the last five years. With that performance, I would expect it to have an above average P/E ratio.
How Does Wheels India’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Wheels India has a higher P/E than the average (17.4) P/E for companies in the auto components industry.
Its relatively high P/E ratio indicates that Wheels India shareholders think it will perform better than other companies in its industry classification. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should delve deeper. I like to check if company insiders have been buying or selling.
Remember: P/E Ratios Don’t Consider The Balance Sheet
The ‘Price’ in P/E reflects the market capitalization of the company. 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.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).