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.
Creative Peripherals and Distribution Limited (NSE:CREATIVE) trades on a trailing P/E of 23.4. This isn’t too far from the industry average (which is 24.3). While this makes CREATIVE 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 explain what the P/E ratio is as well as what you should look out for when using it.
Check out our latest analysis for Creative Peripherals and Distribution
What you need to know about 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 CREATIVE
Price-Earnings Ratio = Price per share ÷ Earnings per share
CREATIVE Price-Earnings Ratio = ₹117.5 ÷ ₹5.02 = 23.4x
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 CREATIVE, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. Creative Peripherals and Distribution Limited (NSE:CREATIVE) is currently trading at a trailing P/E of 23.4, which is close to the industry average of 24.3. This multiple is a median of profitable companies of 21 Electronic companies in IN including Jatalia Global Ventures, SPS International and Incap. You can think of it like this: the market is suggesting that CREATIVE has similar prospects to its peers in the same industry.
Assumptions to be aware of
However, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to CREATIVE. 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 CREATIVE, 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 CREATIVE to are fairly valued by the market. If this does not hold true, CREATIVE’s lower P/E ratio may be because firms in our peer group are overvalued by the market.