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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 Vicplas International Ltd's (SGX:569) P/E ratio could help you assess the value on offer. Vicplas International has a P/E ratio of 20.34, based on the last twelve months. That means that at current prices, buyers pay SGD20.34 for every SGD1 in trailing yearly profits.
View our latest analysis for Vicplas International
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 Vicplas International:
P/E of 20.34 = SGD0.074 ÷ SGD0.0036 (Based on the trailing twelve months to January 2019.)
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.
Does Vicplas International Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio essentially measures market expectations of a company. The image below shows that Vicplas International has a lower P/E than the average (22.9) P/E for companies in the medical equipment industry.
Its relatively low P/E ratio indicates that Vicplas International 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 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.
Vicplas International saw earnings per share decrease by 39% last year. And over the longer term (3 years) earnings per share have decreased 35% annually. This growth rate might warrant a low P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. 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).
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.