This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we’ll show how USU Software AG’s (ETR:OSP2) P/E ratio could help you assess the value on offer. USU Software has a price to earnings ratio of 66.78, based on the last twelve months. That is equivalent to an earnings yield of about 1.5%.
View our latest analysis for USU Software
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for USU Software:
P/E of 66.78 = €17.4 ÷ €0.26 (Based on the trailing twelve months to June 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.
How Growth Rates Impact P/E Ratios
When earnings fall, the ‘E’ decreases, over time. That means even if the current P/E is low, it will increase over time if the share price stays flat. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
USU Software saw earnings per share decrease by 39% last year. And over the longer term (5 years) earnings per share have decreased 2.0% annually. This might lead to muted expectations.
How Does USU Software’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. As you can see below, USU Software has a higher P/E than the average company (32.7) in the software industry.
That means that the market expects USU Software will outperform other companies in its industry. 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.
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. 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.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
USU Software’s Balance Sheet
The extra options and safety that comes with USU Software’s €17m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.