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Airtel Africa (LON:AAF) shareholders are no doubt pleased to see that the share price has bounced 30% in the last month alone, although it is still down 7.4% over the last quarter. While recent buyers might be laughing, long term holders might not be so pleased, since the recent gain only brings the full year return to evens.
Assuming no other changes, a sharply higher share price makes a stock less 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 some would prefer to hold off buying when there is a lot of optimism towards a stock. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
See our latest analysis for Airtel Africa
How Does Airtel Africa's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 5.72 that sentiment around Airtel Africa isn't particularly high. We can see in the image below that the average P/E (22.2) for companies in the wireless telecom industry is higher than Airtel Africa's P/E.
Airtel Africa's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with Airtel Africa, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
In the last year, Airtel Africa grew EPS like Taylor Swift grew her fan base back in 2010; the 218% gain was both fast and well deserved.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
The 'Price' in P/E reflects the market capitalization of the company. 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.