Should We Worry About AFH Financial Group Plc’s (LON:AFHP) P/E Ratio?

The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we’ll show how AFH Financial Group Plc’s (LON:AFHP) P/E ratio could help you assess the value on offer. Based on the last twelve months, AFH Financial Group’s P/E ratio is 21.26. That means that at current prices, buyers pay £21.26 for every £1 in trailing yearly profits.

Check out our latest analysis for AFH Financial Group

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 AFH Financial Group:

P/E of 21.26 = £3.4 ÷ £0.16 (Based on the trailing twelve months to October 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 isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.

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. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.

AFH Financial Group increased earnings per share by a whopping 43% last year. And it has bolstered its earnings per share by 29% per year over the last five years. With that performance, I would expect it to have an above average P/E ratio.

How Does AFH Financial 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. As you can see below AFH Financial Group has a P/E ratio that is fairly close for the average for the capital markets industry, which is 20.7.

AIM:AFHP Price Estimation Relative to Market, March 13th 2019

That indicates that the market expects AFH Financial Group will perform roughly in line with other companies in its industry. The company could surprise by performing better than average, in the future. Further research into factors such asmanagement tenure, could help you form your own view on whether that is likely.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

The ‘Price’ in P/E reflects the market capitalization of the company. 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.

AFH Financial Group’s Balance Sheet

AFH Financial Group has net cash of UK£18m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.

The Bottom Line On AFH Financial Group’s P/E Ratio

AFH Financial Group’s P/E is 21.3 which is above average (15.9) in the GB market. Its strong balance sheet gives the company plenty of resources for extra growth, and it has already proven it can grow. Therefore it seems reasonable that the market would have relatively high expectations of the company

Investors should be looking to buy stocks that the market is wrong about. 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 visual report on analyst forecasts could hold the key to an excellent investment decision.

But note: AFH Financial Group may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio 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 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. Thank you for reading.