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Is Finsbury Food Group Plc's (LON:FIF) P/E Ratio Really That Good?

This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll look at Finsbury Food Group Plc's (LON:FIF) P/E ratio and reflect on what it tells us about the company's share price. Finsbury Food Group has a price to earnings ratio of 14.00, based on the last twelve months. That means that at current prices, buyers pay £14.00 for every £1 in trailing yearly profits.

See our latest analysis for Finsbury Food Group

How Do I Calculate A Price To Earnings Ratio?

The formula for P/E is:

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

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Or for Finsbury Food Group:

P/E of 14.00 = GBP1.02 ÷ GBP0.07 (Based on the year to June 2019.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each GBP1 of company earnings. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price'.

How Does Finsbury Food Group's P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. We can see in the image below that the average P/E (15.4) for companies in the food industry is higher than Finsbury Food Group's P/E.

AIM:FIF Price Estimation Relative to Market, February 4th 2020
AIM:FIF Price Estimation Relative to Market, February 4th 2020

Its relatively low P/E ratio indicates that Finsbury Food Group shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Finsbury Food Group, it's quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. When earnings grow, the 'E' increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

Finsbury Food Group's earnings made like a rocket, taking off 327% last year. Having said that, if we look back three years, EPS growth has averaged a comparatively less impressive 5.9%.

Remember: P/E Ratios Don't Consider The Balance Sheet

Don't forget that the P/E ratio considers market capitalization. That means it doesn't take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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).

Finsbury Food Group's Balance Sheet

Net debt is 27% of Finsbury Food Group's market cap. While that's enough to warrant consideration, it doesn't really concern us.

The Bottom Line On Finsbury Food Group's P/E Ratio

Finsbury Food Group's P/E is 14.0 which is below average (18.0) in the GB market. The company does have a little debt, and EPS growth was good last year. If the company can continue to grow earnings, then the current P/E may be unjustifiably low. Given analysts are expecting further growth, one might have expected a higher P/E ratio. That may be worth further research.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

You might be able to find a better buy than Finsbury Food Group. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

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.

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. Thank you for reading.