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 F.I.L.A. - Fabbrica Italiana Lapis ed Affini S.p.A.'s (BIT:FILA) P/E ratio could help you assess the value on offer. F.I.L.A. - Fabbrica Italiana Lapis ed Affini has a price to earnings ratio of 32.38, based on the last twelve months. That corresponds to an earnings yield of approximately 3.1%.

Check out our latest analysis for F.I.L.A. - Fabbrica Italiana Lapis ed Affini

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 F.I.L.A. - Fabbrica Italiana Lapis ed Affini:

P/E of 32.38 = €13.9 ÷ €0.43 (Based on the year to June 2019.)

Is A High P/E 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 Does F.I.L.A. - Fabbrica Italiana Lapis ed Affini's P/E Ratio Compare To Its Peers?

The P/E ratio essentially measures market expectations of a company. You can see in the image below that the average P/E (14.1) for companies in the commercial services industry is lower than F.I.L.A. - Fabbrica Italiana Lapis ed Affini's P/E.

Its relatively high P/E ratio indicates that F.I.L.A. - Fabbrica Italiana Lapis ed Affini shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and selling.

How Growth Rates Impact P/E Ratios

If earnings fall then in the future the 'E' will be lower. That means unless the share price falls, the P/E will increase in a few years. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.

F.I.L.A. - Fabbrica Italiana Lapis ed Affini's 152% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. Regrettably, the longer term performance is poor, with EPS down 3.2% per year over 5 years.

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

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. So it won't reflect the advantage of cash, or disadvantage of debt. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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.

F.I.L.A. - Fabbrica Italiana Lapis ed Affini's Balance Sheet

F.I.L.A. - Fabbrica Italiana Lapis ed Affini's net debt is 74% of its market cap. This is enough debt that you'd have to make some adjustments before using the P/E ratio to compare it to a company with net cash.

The Verdict On F.I.L.A. - Fabbrica Italiana Lapis ed Affini's P/E Ratio

F.I.L.A. - Fabbrica Italiana Lapis ed Affini has a P/E of 32.4. That's higher than the average in its market, which is 16.2. While its debt levels are rather high, at least its EPS is growing quickly. So despite the debt it is, perhaps, not unreasonable to see a high P/E ratio.

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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

Of course you might be able to find a better stock than F.I.L.A. - Fabbrica Italiana Lapis ed Affini. 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.