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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at BHP Group's (ASX:BHP) P/E ratio and reflect on what it tells us about the company's share price. BHP Group has a price to earnings ratio of 17.35, based on the last twelve months. That is equivalent to an earnings yield of about 5.8%.
View our latest analysis for BHP Group
How Do I Calculate BHP Group's Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for BHP Group:
P/E of 17.35 = $28.86 (Note: this is the share price in the reporting currency, namely, USD ) ÷ $1.66 (Based on the trailing twelve months to December 2018.)
Is A High P/E Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
BHP Group's earnings made like a rocket, taking off 77% last year. Unfortunately, earnings per share are down 9.9% a year, over 5 years.
Does BHP Group Have A Relatively High Or Low P/E For Its Industry?
We can get an indication of market expectations by looking at the P/E ratio. The image below shows that BHP Group has a higher P/E than the average (12) P/E for companies in the metals and mining industry.
Its relatively high P/E ratio indicates that BHP Group shareholders think it will perform better than other companies in its industry classification. 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.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. 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.