This article is intended for those of you who are at the beginning of your investing journey and want to better understand how you can grow your money by investing in Venky’s (India) Limited (NSE:VENKYS).
Venky’s (India) Limited (NSE:VENKYS) trades with a trailing P/E of 18.3x, which is lower than the industry average of 20.8x. While VENKYS might seem like an attractive stock to buy, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. Today, 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 Venky’s (India)
Demystifying the P/E ratio
P/E is often used for relative valuation since earnings power is a chief driver of investment value. By comparing a stock’s price per share to its earnings per share, we are able to see how much investors are paying for each dollar of the company’s earnings.
P/E Calculation for VENKYS
Price-Earnings Ratio = Price per share ÷ Earnings per share
VENKYS Price-Earnings Ratio = ₹2594.55 ÷ ₹141.76 = 18.3x
On its own, the P/E ratio doesn’t tell you much; however, it becomes extremely useful when you compare it with other similar companies. We preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to VENKYS, such as capital structure and profitability. A common peer group is companies that exist in the same industry, which is what I use. VENKYS’s P/E of 18.3x is lower than its industry peers (20.8x), which implies that each dollar of VENKYS’s earnings is being undervalued by investors. As such, our analysis shows that VENKYS represents an under-priced stock.
Assumptions to watch out for
However, before you rush out to buy VENKYS, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to VENKYS. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared higher growth firms with VENKYS, then its P/E would naturally be lower since investors would reward its peers’ higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing VENKYS to are fairly valued by the market. If this is violated, VENKYS’s P/E may be lower than its peers as they are actually overvalued by investors.
What this means for you:
If your personal research into the stock confirms what the P/E ratio is telling you, it might be a good time to add more of VENKYS to your portfolio. But keep in mind that the usefulness of relative valuation depends on whether you are comfortable with making the assumptions I mentioned above. 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 highly recommend you to complete your research by taking a look at the following: