Team17 Group (LON:TM17) shares have continued recent momentum with a 34% gain in the last month alone. Zooming out, the annual gain of 103% 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. So some would prefer to hold off buying when there is a lot of optimism towards a stock. 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). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
How Does Team17 Group's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 36.85 that there is some investor optimism about Team17 Group. You can see in the image below that the average P/E (23.1) for companies in the entertainment industry is lower than Team17 Group's P/E.
Team17 Group's P/E tells us that market participants think the company will perform better than its industry peers, going forward. The market is optimistic about the future, but that doesn't guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
How Growth Rates Impact P/E Ratios
If earnings fall then in the future the 'E' will be lower. That means unless the share price falls, the P/E will increase in a few years. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.
Team17 Group's 290% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. Unfortunately, earnings per share are down 83% a year, over 3 years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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.
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.
Team17 Group's Balance Sheet
Team17 Group has net cash of UK£36m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Verdict On Team17 Group's P/E Ratio
Team17 Group has a P/E of 36.8. That's higher than the average in its market, which is 18.5. Its net cash position is the cherry on top of its superb EPS growth. So based on this analysis we'd expect Team17 Group to have a high P/E ratio. What we know for sure is that investors have become much more excited about Team17 Group recently, since they have pushed its P/E ratio from 27.5 to 36.8 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. 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.
You might be able to find a better buy than Team17 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 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.
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