Four Corners Property Trust Inc (NYSE:FCPT) trades with a trailing P/E of 19.1x, which is lower than the industry average of 20.6x. While FCPT 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. View our latest analysis for Four Corners Property Trust

Demystifying 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 FCPT

Price-Earnings Ratio = Price per share ÷ Earnings per share

FCPT Price-Earnings Ratio = $22.5 ÷ $1.178 = 19.1x

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 FCPT, 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. At 19.1x, FCPT’s P/E is lower than its industry peers (20.6x). This implies that investors are undervaluing each dollar of FCPT’s earnings. Therefore, according to this analysis, FCPT is an under-priced stock.

Assumptions to watch out for

While our conclusion might prompt you to buy FCPT immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to FCPT, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with FCPT, 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 FCPT to are fairly valued by the market. If this is violated, FCPT’s P/E may be lower than its peers as they are actually overvalued by investors.

To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned.