In This Article:
This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we'll show how INVISIO Communications AB (publ)'s (STO:IVSO) P/E ratio could help you assess the value on offer. INVISIO Communications has a P/E ratio of 58.37, based on the last twelve months. That is equivalent to an earnings yield of about 1.7%.
See our latest analysis for INVISIO Communications
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for INVISIO Communications:
P/E of 58.37 = SEK72 ÷ SEK1.23 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each SEK1 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 INVISIO Communications Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that INVISIO Communications has a higher P/E than the average (22) P/E for companies in the aerospace & defense industry.
Its relatively high P/E ratio indicates that INVISIO Communications shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. I often monitor director buying and 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. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.
INVISIO Communications increased earnings per share by 5.0% last year. And it has bolstered its earnings per share by 61% per year over the last five years. Unfortunately, earnings per share are down 11% a year, over 3 years.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. In other words, it does not consider any debt or cash that the company may have on the balance sheet. 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).