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Does Royal Caribbean Cruises Ltd.'s (NYSE:RCL) P/E Ratio Signal A Buying Opportunity?

Simply Wall St

The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll look at Royal Caribbean Cruises Ltd.'s (NYSE:RCL) P/E ratio and reflect on what it tells us about the company's share price. What is Royal Caribbean Cruises's P/E ratio? Well, based on the last twelve months it is 12.36. That means that at current prices, buyers pay \$12.36 for every \$1 in trailing yearly profits.

How Do You Calculate Royal Caribbean Cruises's P/E Ratio?

The formula for P/E is:

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

Or for Royal Caribbean Cruises:

P/E of 12.36 = \$109.25 ÷ \$8.84 (Based on the trailing twelve months to June 2019.)

Is A High P/E Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each \$1 of company earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

Does Royal Caribbean Cruises 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. We can see in the image below that the average P/E (21.7) for companies in the hospitality industry is higher than Royal Caribbean Cruises's P/E.

Royal Caribbean Cruises'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 Royal Caribbean Cruises, 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. When earnings grow, the 'E' increases, over time. 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.

Royal Caribbean Cruises's earnings per share grew by -9.2% in the last twelve months. And it has bolstered its earnings per share by 29% per year over the last five years.

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

Don't forget that the P/E ratio considers market capitalization. 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.

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 Royal Caribbean Cruises's Debt Impact Its P/E Ratio?

Royal Caribbean Cruises has net debt equal to 46% of its market cap. You'd want to be aware of this fact, but it doesn't bother us.

The Bottom Line On Royal Caribbean Cruises's P/E Ratio

Royal Caribbean Cruises trades on a P/E ratio of 12.4, which is below the US market average of 17.4. The company does have a little debt, and EPS is moving in the right direction. The P/E ratio implies the market is cautious about longer term prospects.

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.

But note: Royal Caribbean Cruises 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.