The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll apply a basic P/E ratio analysis to Johnson Controls-Hitachi Air Conditioning India Limited's (NSE:JCHAC), to help you decide if the stock is worth further research. Johnson Controls-Hitachi Air Conditioning India has a P/E ratio of 62.12, based on the last twelve months. In other words, at today's prices, investors are paying ₹62.12 for every ₹1 in prior year profit.

See our latest analysis for Johnson Controls-Hitachi Air Conditioning India

How Do You Calculate Johnson Controls-Hitachi Air Conditioning India's P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Johnson Controls-Hitachi Air Conditioning India:

P/E of 62.12 = ₹1922.2 ÷ ₹30.94 (Based on the year to December 2018.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that buyers have to pay a higher price for each ₹1 the company has earned over the last year. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price.'

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. And in that case, the P/E ratio itself will drop rather quickly. Then, a lower P/E should attract more buyers, pushing the share price up.

Johnson Controls-Hitachi Air Conditioning India shrunk earnings per share by 1.2% last year. But it has grown its earnings per share by 60% per year over the last five years.

Does Johnson Controls-Hitachi Air Conditioning India Have A Relatively High Or Low P/E For Its Industry?

One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. You can see in the image below that the average P/E (27.7) for companies in the consumer durables industry is lower than Johnson Controls-Hitachi Air Conditioning India's P/E.

That means that the market expects Johnson Controls-Hitachi Air Conditioning India will outperform other companies in its industry. 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.

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

It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn't take debt or cash into account. 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.

Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.

How Does Johnson Controls-Hitachi Air Conditioning India's Debt Impact Its P/E Ratio?

Since Johnson Controls-Hitachi Air Conditioning India holds net cash of ₹2.2b, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Bottom Line On Johnson Controls-Hitachi Air Conditioning India's P/E Ratio

Johnson Controls-Hitachi Air Conditioning India's P/E is 62.1 which suggests the market is more focussed on the future opportunity rather than the current level of earnings. The recent drop in earnings per share might keep value investors away, but the net cash position means the company has time to improve: and the high P/E suggests the market thinks it will.

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.

Of course you might be able to find a better stock than Johnson Controls-Hitachi Air Conditioning India. So you may wish to see this free collection of other companies that have grown earnings strongly.

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.