This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll show how you can use Metall Zug AG's (VTX:METN) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Metall Zug has a P/E ratio of 14.69. That means that at current prices, buyers pay CHF14.69 for every CHF1 in trailing yearly profits.
Check out our latest analysis for Metall Zug
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Metall Zug:
P/E of 14.69 = CHF2080 ÷ CHF141.59 (Based on the trailing twelve months to December 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 necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
Does Metall Zug 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 Metall Zug has a higher P/E than the average (12.3) P/E for companies in the consumer durables industry.
That means that the market expects Metall Zug will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. So investors should delve deeper. I like to check if company insiders have been buying or selling.
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. Then, a lower P/E should attract more buyers, pushing the share price up.
Metall Zug shrunk earnings per share by 6.1% last year. But EPS is up 3.1% over the last 3 years. And it has shrunk its earnings per share by 13% per year over the last five years. So it would be surprising to see a high P/E.
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. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.