This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Terveystalo Oyj's (HEL:TTALO) P/E ratio and reflect on what it tells us about the company's share price. Looking at earnings over the last twelve months, Terveystalo Oyj has a P/E ratio of 28.04. In other words, at today's prices, investors are paying €28.04 for every €1 in prior year profit.
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 Terveystalo Oyj:
P/E of 28.04 = €10.60 ÷ €0.38 (Based on the year to September 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each €1 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 Does Terveystalo Oyj's P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. You can see in the image below that the average P/E (22.4) for companies in the healthcare industry is lower than Terveystalo Oyj's P/E.
Its relatively high P/E ratio indicates that Terveystalo Oyj shareholders think it will perform better than other companies in its industry classification. 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
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 even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Terveystalo Oyj shrunk earnings per share by 28% over the last year. But it has grown its earnings per share by 52% per year over the last three years.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The 'Price' in P/E reflects the market capitalization of the company. That means it doesn't take debt or cash into account. 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).
Terveystalo Oyj's Balance Sheet
Terveystalo Oyj's net debt equates to 29% of its market capitalization. While that's enough to warrant consideration, it doesn't really concern us.
The Verdict On Terveystalo Oyj's P/E Ratio
Terveystalo Oyj has a P/E of 28.0. That's higher than the average in its market, which is 19.2. 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. As value investor Benjamin Graham famously said, 'In the short run, the market is a voting machine but in the long run, it is a weighing machine. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E 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 firstname.lastname@example.org. 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.