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The Buckle Inc (NYSE:BKE) trades with a trailing P/E of 13.5x, which is lower than the industry average of 19.5x. While this makes BKE appear like a great stock to buy, you might change your mind after I explain the assumptions behind the P/E ratio. In this article, I will break down what the P/E ratio is, how to interpret it and what to watch out for. Check out our latest analysis for Buckle
Breaking down the Price-Earnings ratio
P/E is a popular ratio used for relative valuation. 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 BKE
Price-Earnings Ratio = Price per share ÷ Earnings per share
BKE Price-Earnings Ratio = $25.1 ÷ $1.859 = 13.5x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as BKE, 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. BKE’s P/E of 13.5x is lower than its industry peers (19.5x), which implies that each dollar of BKE’s earnings is being undervalued by investors. Therefore, according to this analysis, BKE is an under-priced stock.
A few caveats
Before you jump to the conclusion that BKE is the perfect buying opportunity, it is important to realise that our conclusion rests on two assertions. Firstly, our peer group contains companies that are similar to BKE. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared lower risk firms with BKE, then investors would naturally value it at a lower price since it is a riskier investment. The second assumption that must hold true is that the stocks we are comparing BKE to are fairly valued by the market. If this does not hold true, BKE’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
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 BKE 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: