Libas Designs (NSE:LIBAS) shareholders are no doubt pleased to see that the share price has had a great month, posting a 39% gain, recovering from prior weakness. The bad news is that even after that recovery shareholders are still underwater by about 7.3% for the full year.
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. The implication here is that deep value investors might steer clear when expectations of a company are too high. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
Check out our latest analysis for Libas Designs
How Does Libas Designs's P/E Ratio Compare To Its Peers?
Libas Designs's P/E of 11.63 indicates some degree of optimism towards the stock. You can see in the image below that the average P/E (10.8) for companies in the luxury industry is lower than Libas Designs's P/E.
Libas Designs's P/E tells us that market participants think the company will perform better than its industry peers, going forward. The market is optimistic about the future, but that doesn't guarantee future growth. So investors 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 unless the share price falls, the P/E will increase in a few years. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.
Libas Designs's earnings made like a rocket, taking off 96% last year. The sweetener is that the annual five year growth rate of 18% is also impressive. So I'd be surprised if the P/E ratio was not above average. Unfortunately, earnings per share are down 5.8% a year, over 3 years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. So it won't reflect the advantage of cash, or disadvantage of debt. 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).