Do You Like Verallia Deutschland AG (FRA:OLG) At This P/E Ratio?

This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll show how you can use Verallia Deutschland AG's (FRA:OLG) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Verallia Deutschland has a P/E ratio of 13.7. In other words, at today's prices, investors are paying €13.7 for every €1 in prior year profit.

See our latest analysis for Verallia Deutschland

How Do You Calculate A P/E Ratio?

The formula for price to earnings is:

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

Or for Verallia Deutschland:

P/E of 13.7 = €515 ÷ €37.6 (Based on the year to December 2018.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing 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

Probably the most important factor in determining what P/E a company trades on is the earnings growth. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

Verallia Deutschland's earnings made like a rocket, taking off 52% last year. The cherry on top is that the five year growth rate was an impressive 48% per year. So I'd be surprised if the P/E ratio was not above average.

Does Verallia Deutschland 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. The image below shows that Verallia Deutschland has a lower P/E than the average (16.7) P/E for companies in the packaging industry.

This suggests that market participants think Verallia Deutschland will underperform other companies in its industry. Since the market seems unimpressed with Verallia Deutschland, it's quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.

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. 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).

So What Does Verallia Deutschland's Balance Sheet Tell Us?

Verallia Deutschland's net debt is 14% of its market cap. It would probably deserve a higher P/E ratio if it was net cash, since it would have more options for growth.

The Verdict On Verallia Deutschland's P/E Ratio

Verallia Deutschland trades on a P/E ratio of 13.7, which is below the DE market average of 19.7. The company hasn't stretched its balance sheet, and earnings growth was good last year. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue.

When the market is wrong about a stock, it gives savvy investors an opportunity. 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.' We don't have analyst forecasts, but you could get a better understanding of its growth by checking out this more detailed historical graph of earnings, revenue and cash flow.

But note: Verallia Deutschland 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.