Why PZ Cussons Plc’s (LON:PZC) High P/E Ratio Isn’t Necessarily A Bad Thing
The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll show how you can use PZ Cussons Plc’s (LON:PZC) P/E ratio to inform your assessment of the investment opportunity. PZ Cussons has a price to earnings ratio of 18.78, based on the last twelve months. That is equivalent to an earnings yield of about 5.3%.
Check out our latest analysis for PZ Cussons
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 PZ Cussons:
P/E of 18.78 = £2.14 ÷ £0.11 (Based on the year to May 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each £1 of company earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.
PZ Cussons saw earnings per share decrease by 24% last year. But it has grown its earnings per share by 1.5% per year over the last three years. And it has shrunk its earnings per share by 5.3% per year over the last five years. This might lead to muted expectations.
How Does PZ Cussons’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below, PZ Cussons has a higher P/E than the average company (17) in the household products industry.
PZ Cussons’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. Clearly the market expects growth, but it isn’t guaranteed. So investors should delve deeper. I like to check if company insiders have been buying or selling.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
Don’t forget that the P/E ratio considers market capitalization. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Theoretically, a business can improve its earnings (and produce a lower P/E in the future), by taking on debt (or spending its remaining cash).
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).
How Does PZ Cussons’s Debt Impact Its P/E Ratio?
Net debt totals 18% of PZ Cussons’s market cap. 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 PZ Cussons’s P/E Ratio
PZ Cussons has a P/E of 18.8. That’s higher than the average in the GB market, which is 14.7. 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.
When the market is wrong about a stock, it gives savvy investors an opportunity. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. 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.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.