Investors have many different tools available to help them evaluate companies, their performance, and how viable they are as investment opportunities. Among those tools is the price-to-earnings ratio (P/E ratio). Benjamin Graham, the father of value investing, described this tool as one the quickest ways to determine a stock's viability and potential for growth. But what happens when a company doesn't have a P/E ratio? How should you analyze this as an investor?
- A price-to-earnings ratio (P/E ratio) is a tool investors use to determine a stock's viability and potential for growth.
- A P/E ratio of N/A means the ratio is not available or not applicable for that company's stock.
- A company can have a P/E ratio of N/A if it's newly listed on the stock exchange, such as in the case of an initial public offering (IPO).
- A company can have a P/E ratio of N/A if it has negative earnings per share (EPS).
Calculating a P/E Ratio
Investors and analysts will often look at a company's P/E ratio to gauge if a stock is overvalued or undervalued relative to its competitors and the broader market. In simple terms, the P/E ratio is what an investor pays for $1 of a company's earnings.
The P/E ratio is calculated as the stock's current price in the market divided by its earnings per share (EPS):
P/E ratio = Market value per share ÷ Earnings per share
The P/E ratio allows for quick apples-to-apples comparisons across stocks that are in the same industry sector or within the same stock over different periods.
A high P/E ratio generally means investors anticipate a company's growth will be higher in the future.
A P/E ratio is typically expressed as a multiple. For example, if a company has a P/E ratio of 15x, this indicates its shares are trading at 15 times its earnings. If a direct competitor of that company has a P/E ratio of 10x, it may be safe to assume that this company is a better value to buy than the higher-priced 15x P/E stock.
But sometimes, these ratios don't exist and are expressed as N/A.
How Companies Get an "N/A" for a P/E Ratio
An "N/A," which stands for not applicable or not available, will sometimes be reported as a stock's P/E ratio. You'll often notice these on a chart for a security. This can mean one of two things.
The first and simplest explanation is that there is simply no data available at the time of reporting. This will be the case with a newly listed company like an initial public offering (IPO) that has yet to release its earnings report.
The second (and more common) reason is that the P/E ratio of a stock when calculated is a negative number. Negative P/E ratios are mathematically possible, but because they are generally not accepted by the financial community, they are usually reported as "N/A" or not applicable.
A stock can't have a negative price in the market. The negative part of the P/E ratio comes from the fact that the EPS of the company is negative. If a company's earnings are exactly $0 for the period, an NA will also appear since you cannot divide by zero.
How to Handle an "N/A" P/E Ratio
So what should you do when you come across a company with a P/E ratio that reads N/A?
Investors can interpret seeing "N/A" as the company reporting a net loss. They should be aware they are buying shares of a company that has lost money. Of course, this is not always a reason to worry.
High-growth companies in the semiconductor, biotech, or internet sectors often lose money in the first few years as they experience rapid expansion or growth, grow their customer base, and develop new products and markets. The expectation is that the company will turn a profit, but in the short-term they have to burn cash to accelerate growth and revenue. Amazon is a prime example of a company that lost money year after year, yet remains a high flyer on the market in terms of its share price and market capitalization.
Companies with an N/A for their P/E ratio, however, may also indicate a sign of trouble. If a company has historically had a track record of profits and then turns negative, it could mean they are in financial trouble or in a dying industry.
The Bottom Line
When an investor sees that a company has a P/E ratio that reads N/A, it may be a warning sign that a company is in financial trouble. It may also mean it's too new to the investment world. Frankly, the P/E ratio is just one of several metrics used for fundamental analysis. Its interpretation should be taken in conjunction with other financial ratios, industry trends, historical performance across peers, and the market as a whole.