CapitaLand Mall Trust (SGX:C38U) is trading with a trailing P/E of 11.5x, which is lower than the industry average of 16.4x. While this makes C38U 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. View our latest analysis for CapitaLand Mall Trust
What you need to know about the P/E ratio
The P/E ratio is one of many ratios used in 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 C38U
Price-Earnings Ratio = Price per share ÷ Earnings per share
C38U Price-Earnings Ratio = SGD2.04 ÷ SGD0.178 = 11.5x
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 C38U, such as size and country of operation. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. Since C38U’s P/E of 11.5x is lower than its industry peers (16.4x), it means that investors are paying less than they should for each dollar of C38U’s earnings. Therefore, according to this analysis, C38U is an under-priced stock.
A few caveats
While our conclusion might prompt you to buy C38U immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to C38U, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with C38U, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing C38U to are fairly valued by the market. If this does not hold, there is a possibility that C38U’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
Are you a shareholder? Since you may have already conducted your due diligence on C38U, the undervaluation of the stock may mean it is a good time to top up on your current holdings. But at the end of the day, keep in mind that relative valuation relies heavily on critical assumptions I’ve outlined above.
Are you a potential investor? If you are considering investing in C38U, basing your decision on the PE metric at one point in time is certainly not sufficient. I recommend you do additional analysis by looking at its intrinsic valuation and using other relative valuation ratios like PEG or EV/EBITDA.