Unfortunately for some shareholders, the Napco Security Technologies (NASDAQ:NSSC) share price has dived 33% in the last thirty days. That drop has capped off a tough year for shareholders, with the share price down 33% in that time.
All else being equal, a share price drop should make a stock more attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. The implication here is that long term investors have an opportunity when expectations of a company are too low. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
View our latest analysis for Napco Security Technologies
How Does Napco Security Technologies’s P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 17.26 that there is some investor optimism about Napco Security Technologies. You can see in the image below that the average P/E (14.3) for companies in the electronic industry is lower than Napco Security Technologies’s P/E.
Its relatively high P/E ratio indicates that Napco Security Technologies shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn’t guaranteed. So further research is always essential. I often monitor director buying and selling.
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. When earnings grow, the ‘E’ increases, over time. That means even if the current P/E is high, it will reduce over time if the share price stays flat. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
It’s nice to see that Napco Security Technologies grew EPS by a stonking 50% in the last year. And its annual EPS growth rate over 5 years is 30%. With that performance, I would expect it to have an above average P/E ratio.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
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. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
Napco Security Technologies’s Balance Sheet
The extra options and safety that comes with Napco Security Technologies’s US$12m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Verdict On Napco Security Technologies’s P/E Ratio
Napco Security Technologies’s P/E is 17.3 which is above average (12.4) in its market. 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). Given Napco Security Technologies’s P/E ratio has declined from 25.6 to 17.3 in the last month, we know for sure that the market is significantly less confident about the business today, than it was back then. For those who don’t like to trade against momentum, that could be a warning sign, but a contrarian investor might want to take a closer look.
Investors should be looking to buy stocks that the market is wrong about. People often underestimate remarkable growth — so investors can make money when fast growth is not fully appreciated. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
You might be able to find a better buy than Napco Security Technologies. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.
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. Thank you for reading.