This article is intended for those of you who are at the beginning of your investing journey and want to learn about the link between company’s fundamentals and stock market performance.
Allgemeine Gold- und Silberscheideanstalt AG (MUN:AGS) trades with a trailing P/E of 22.5, which is higher than the industry average of 8.5. Although some investors may see this as unappealing, it is important to understand the assumptions behind the P/E ratio before making judgments. In this article, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio.
See our latest analysis for Allgemeine Gold- und Silberscheideanstalt
Breaking down the P/E ratio
P/E is a popular ratio used for relative valuation. It compares a stock’s price per share to the stock’s earnings per share. A more intuitive way of understanding the P/E ratio is to think of it as how much investors are paying for each dollar of the company’s earnings.
P/E Calculation for AGS
Price-Earnings Ratio = Price per share ÷ Earnings per share
AGS Price-Earnings Ratio = €98 ÷ €4.356 = 22.5x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as AGS, such as size and country of operation. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. AGS’s P/E of 22.5 is higher than its industry peers (8.5), which implies that each dollar of AGS’s earnings is being overvalued by investors. This multiple is a median of profitable companies of 23 Metals and Mining companies in DE including En+ Group, Pasinex Resources and United Company RUSAL. You could also say that the market is suggesting that AGS is a stronger business than the average comparable company.
Assumptions to watch out for
However, it is important to note that our examination of the stock is based on certain assumptions. Firstly, that our peer group contains companies that are similar to AGS. If this isn’t the case, the difference in P/E could be due to other factors. For example, if Allgemeine Gold- und Silberscheideanstalt AG is growing faster than its peers, then it would deserve a higher P/E ratio. Of course, it is possible that the stocks we are comparing with AGS are not fairly valued. Thus while we might conclude that it is richly valued relative to its peers, that could be explained by the peer group being undervalued.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to AGS. Now that you understand the ins and outs of the PE metric, you should know to bear in mind its limitations before you make an investment decision. Remember that basing your investment decision off one metric alone is certainly not sufficient. There are many things I have not taken into account in this article and the PE ratio is very one-dimensional. If you have not done so already, I urge you to complete your research by taking a look at the following: