Yahoo Finance Why Exponent, Inc.'s (NASDAQ:EXPO) High P/E Ratio Isn't Necessarily A Bad Thing
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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Exponent, Inc.'s (NASDAQ:EXPO) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, Exponent's P/E ratio is 40.07. That means that at current prices, buyers pay $40.07 for every $1 in trailing yearly profits.
Check out our latest analysis for Exponent
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Exponent:
P/E of 40.07 = $56.58 ÷ $1.41 (Based on the trailing twelve months to March 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 necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
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 even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Exponent's 65% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. And earnings per share have improved by 16% annually, over the last three years. So you might say it really deserves to have an above-average P/E ratio.
Does Exponent 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 Exponent has a higher P/E than the average (23.3) P/E for companies in the professional services industry.
Exponent's P/E tells us that market participants think the company will perform better than its industry peers, going forward. Shareholders are clearly optimistic, but the future is always uncertain. So investors 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
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. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
So What Does Exponent's Balance Sheet Tell Us?
Since Exponent holds net cash of US$172m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Bottom Line On Exponent's P/E Ratio
Exponent trades on a P/E ratio of 40.1, which is above the US market average of 18.3. The excess cash it carries is the gravy on top its fast EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings).
When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
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.
