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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 Cera Sanitaryware Limited’s (NSE:CERA) P/E ratio could help you assess the value on offer. Cera Sanitaryware has a P/E ratio of 29.56, based on the last twelve months. That corresponds to an earnings yield of approximately 3.4%.
Check out our latest analysis for Cera Sanitaryware
How Do You Calculate Cera Sanitaryware’s P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Cera Sanitaryware:
P/E of 29.56 = ₹2345 ÷ ₹79.33 (Based on the year to March 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each ₹1 the company has earned over the last year. All else being equal, it’s better to pay a low price — but as Warren Buffett said, ‘It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.’
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. That means even if the current P/E is high, it will reduce over time if the share price stays flat. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.
Cera Sanitaryware had pretty flat EPS growth in the last year. But EPS is up 19% over the last 5 years.
How Does Cera Sanitaryware’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. As you can see below, Cera Sanitaryware has a higher P/E than the average company (19.3) in the building industry.
That means that the market expects Cera Sanitaryware will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. 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
Don’t forget that the P/E ratio considers market capitalization. That means it doesn’t take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.