Unfortunately for some shareholders, the Sonova Holding (VTX:SOON) share price has dived 33% in the last thirty days. Even longer term holders have taken a real hit with the stock declining 23% in the last year.

Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. 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 long term investors have an opportunity when expectations of a company are too low. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.

See our latest analysis for Sonova Holding

Does Sonova Holding Have A Relatively High Or Low P/E For Its Industry?

We can tell from its P/E ratio of 16.23 that sentiment around Sonova Holding isn't particularly high. The image below shows that Sonova Holding has a lower P/E than the average (35.2) P/E for companies in the medical equipment industry.

Sonova Holding's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with Sonova Holding, it's quite possible it could surprise on the upside. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

Sonova Holding's earnings made like a rocket, taking off 51% last year. And earnings per share have improved by 24% annually, over the last three years. So you might say it really deserves to have an above-average P/E ratio.

Remember: P/E Ratios Don't Consider The Balance Sheet

The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on 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).

Is Debt Impacting Sonova Holding's P/E?

Sonova Holding's net debt is 4.8% of its market cap. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.

The Bottom Line On Sonova Holding's P/E Ratio

Sonova Holding trades on a P/E ratio of 16.2, which is fairly close to the CH market average of 16.2. Given it has reasonable debt levels, and grew earnings strongly last year, the P/E indicates the market has doubts this growth can be sustained. What can be absolutely certain is that the market has become significantly less optimistic about Sonova Holding over the last month, with the P/E ratio falling from 24.4 back then to 16.2 today. For those who don't like to trade against momentum, that could be a warning sign, but a contrarian investor might want to take a closer look.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.

Of course you might be able to find a better stock than Sonova Holding. So you may wish to see this free collection of other companies that have grown earnings strongly.

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.

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. Thank you for reading.