Yahoo Finance Here's What Vita Life Sciences Limited's (ASX:VLS) P/E Ratio Is Telling Us
Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we'll show how Vita Life Sciences Limited's (ASX:VLS) P/E ratio could help you assess the value on offer. Looking at earnings over the last twelve months, Vita Life Sciences has a P/E ratio of 22.54. That corresponds to an earnings yield of approximately 4.4%.
View our latest analysis for Vita Life Sciences
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Vita Life Sciences:
P/E of 22.54 = A$0.62 ÷ A$0.03 (Based on the year to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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.
Does Vita Life Sciences Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio essentially measures market expectations of a company. If you look at the image below, you can see Vita Life Sciences has a lower P/E than the average (35.6) in the pharmaceuticals industry classification.
Vita Life Sciences'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 Vita Life Sciences, 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
Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
Vita Life Sciences saw earnings per share decrease by 61% last year. And over the longer term (5 years) earnings per share have decreased 27% annually. This growth rate might warrant a below 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.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
So What Does Vita Life Sciences's Balance Sheet Tell Us?
With net cash of AU$7.5m, Vita Life Sciences has a very strong balance sheet, which may be important for its business. Having said that, at 20% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.
The Verdict On Vita Life Sciences's P/E Ratio
Vita Life Sciences's P/E is 22.5 which is above average (18.6) in its market. The recent drop in earnings per share would make some investors cautious, but the relatively strong balance sheet will allow the company time to invest in growth. Clearly, the high P/E indicates shareholders think 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. Although we don't have analyst forecasts shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E 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.
