The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Union Steel Holdings Limited’s (SGX:BLA) P/E ratio could help you assess the value on offer. Based on the last twelve months, Union Steel Holdings’s P/E ratio is 28.13. That means that at current prices, buyers pay SGD28.13 for every SGD1 in trailing yearly profits.
View our latest analysis for Union Steel Holdings
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 Union Steel Holdings:
P/E of 28.13 = SGD0.58 ÷ SGD0.021 (Based on the year to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each SGD1 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.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. Earnings growth means that in the future the ‘E’ will be higher. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Union Steel Holdings shrunk earnings per share by 49% over the last year. But it has grown its earnings per share by 83% per year over the last three years. And over the longer term (5 years) earnings per share have decreased 23% annually. This could justify a pessimistic P/E.
How Does Union Steel Holdings’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. The image below shows that Union Steel Holdings has a higher P/E than the average (14.6) P/E for companies in the commercial services industry.
Its relatively high P/E ratio indicates that Union Steel Holdings shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and selling.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
Don’t forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. 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).