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Despite Its High P/E Ratio, Is LSL Property Services plc (LON:LSL) Still Undervalued?

Simply Wall St

Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll look at LSL Property Services plc's (LON:LSL) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, LSL Property Services's P/E ratio is 22.50. That means that at current prices, buyers pay £22.50 for every £1 in trailing yearly profits.

See our latest analysis for LSL Property Services

How Do You Calculate A P/E Ratio?

The formula for price to earnings is:

Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)

Or for LSL Property Services:

P/E of 22.50 = £2.15 ÷ £0.10 (Based on the trailing twelve months to June 2019.)

Is A High P/E 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. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

Does LSL Property Services Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio essentially measures market expectations of a company. You can see in the image below that the average P/E (12.5) for companies in the real estate industry is lower than LSL Property Services's P/E.

LSE:LSL Price Estimation Relative to Market, September 27th 2019

That means that the market expects LSL Property Services will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. I often monitor director buying and selling.

How Growth Rates Impact P/E Ratios

When earnings fall, the 'E' decreases, over time. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.

LSL Property Services shrunk earnings per share by 65% over the last year. And over the longer term (5 years) earnings per share have decreased 21% annually. This growth rate might warrant a below average P/E ratio.

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. So it won't reflect the advantage of cash, or disadvantage of debt. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.

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.

Is Debt Impacting LSL Property Services's P/E?

LSL Property Services has net debt equal to 30% of its market cap. While it's worth keeping this in mind, it isn't a worry.

The Verdict On LSL Property Services's P/E Ratio

LSL Property Services's P/E is 22.5 which is above average (16.0) in its market. With a bit of debt, but a lack of recent growth, it's safe to say the market is expecting improved profit performance from the company, in the next few years.

Investors have an opportunity when market expectations about a stock are wrong. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.

But note: LSL Property Services may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.