In This Article:
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.
DATAGROUP SE (FRA:D6H) is trading with a trailing P/E of 25.9, which is close to the industry average of 25.1. Though this might seem to be a negative, you might change your mind after I explain the assumptions behind the P/E ratio. 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.
Check out our latest analysis for DATAGROUP
Demystifying the P/E 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 D6H
Price-Earnings Ratio = Price per share ÷ Earnings per share
D6H Price-Earnings Ratio = €34.15 ÷ €1.321 = 25.9x
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 D6H, 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. DATAGROUP SE (FRA:D6H) trades on a trailing P/E of 25.9. This isn’t too far from the industry average (which is 25.1). This multiple is a median of profitable companies of 24 IT companies in DE including IT Competence Group, RealTech and DST Systems. One could put it like this: the market is pricing D6H as if it is roughly average for its industry.
A few caveats
However, it is important to note that our examination of the stock is based on certain assumptions. The first is that our “similar companies” are actually similar to D6H. If not, the difference in P/E might be a result of other factors. For example, DATAGROUP SE could be growing more quickly than the companies we’re comparing it with. In that case it would deserve a higher P/E ratio. We should also be aware that the stocks we are comparing to D6H may not be fairly valued. Just because it is trading on a higher P/E ratio than its peers does not mean it must be overvalued. After all, the peer group could be 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 D6H. 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: