Yahoo Finance A Rising Share Price Has Us Looking Closely At Sports Direct International plc's (LON:SPD) P/E Ratio
It's really great to see that even after a strong run, Sports Direct International (LON:SPD) shares have been powering on, with a gain of 47% in the last thirty days. Zooming out, the annual gain of 102% knocks our socks off.
All else being equal, a sharp share price increase should make a stock less attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. The implication here is that deep value investors might steer clear when expectations of a company are too high. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
See our latest analysis for Sports Direct International
How Does Sports Direct International's P/E Ratio Compare To Its Peers?
Sports Direct International's P/E of 21.90 indicates some degree of optimism towards the stock. As you can see below, Sports Direct International has a higher P/E than the average company (16.1) in the specialty retail industry.
That means that the market expects Sports Direct International will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So investors should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. That means even if the current P/E is low, it will increase over time if the share price stays flat. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.
Sports Direct International's earnings made like a rocket, taking off 445% last year. Unfortunately, earnings per share are down 6.9% a year, over 5 years.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
Don't forget that the P/E ratio considers market capitalization. That means it doesn't take debt or cash into account. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
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.
How Does Sports Direct International's Debt Impact Its P/E Ratio?
Sports Direct International has net debt worth 16% of its market capitalization. This could bring some additional risk, and reduce the number of investment options for management; worth remembering if you compare its P/E to businesses without debt.
The Bottom Line On Sports Direct International's P/E Ratio
Sports Direct International's P/E is 21.9 which is above average (18.0) in its market. The company is not overly constrained by its modest debt levels, and its recent EPS growth is nothing short of stand-out. So to be frank we are not surprised it has a high P/E ratio. What we know for sure is that investors have become much more excited about Sports Direct International recently, since they have pushed its P/E ratio from 14.9 to 21.9 over the last month. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.
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 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.
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.
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