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The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll look at IVU Traffic Technologies AG’s (

ETR:IVU

) P/E ratio and reflect on what it tells us about the company’s share price.

IVU Traffic Technologies has a price to earnings ratio of 12.45

, based on the last twelve months. That is equivalent to an earnings yield of about 8.0%.

View our latest analysis for IVU Traffic Technologies

How Do I Calculate A Price To Earnings Ratio?

The

formula for price to earnings

is:

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

Or for IVU Traffic Technologies:

P/E of 12.45 = €5.76 ÷ €0.46 (Based on the trailing twelve months to September 2018.)

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.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. Earnings growth means that in the future the ‘E’ will be higher. That means even if the current P/E is high, it will reduce over time if the share price stays flat. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.

IVU Traffic Technologies increased earnings per share by a whopping 281% last year. And earnings per share have improved by 4.7% annually, over the last five years. I’d therefore be a little surprised if its P/E ratio was not relatively high.

How Does IVU Traffic Technologies’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that IVU Traffic Technologies has a lower P/E than the average (38.3) P/E for companies in the software industry.

XTRA:IVU PE PEG Gauge February 1st 19

IVU Traffic Technologies’s P/E tells us that market participants think it will not fare as well as its peers in the same industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. If you consider the stock interesting, further research is recommended. For example, I often monitor

director buying and 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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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).

How Does IVU Traffic Technologies’s Debt Impact Its P/E Ratio?

IVU Traffic Technologies has net cash of €19m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.

The Bottom Line On IVU Traffic Technologies’s P/E Ratio

IVU Traffic Technologies trades on a P/E ratio of 12.4, which is below the DE market average of 17.9. It grew its EPS nicely over the last year, and the healthy balance sheet implies there is more potential for growth. The below average P/E ratio suggests that market participants don’t believe the strong growth will 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.’ 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.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at

[email protected]

.

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