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Global Testing Corporation Limited (SGX:AYN) is currently trading at a trailing P/E of 11.9x, which is lower than the industry average of 12.2x. While AYN 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. 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 Global Testing
Breaking down the P/E ratio
The P/E ratio is a popular ratio used in relative valuation since earnings power is a key driver of investment value. It compares a stock’s price per share to the stock’s earnings per share. A more intuitive way of understanding the P/E ratio is to think of it as how much investors are paying for each dollar of the company’s earnings.
P/E Calculation for AYN
Price-Earnings Ratio = Price per share ÷ Earnings per share
AYN Price-Earnings Ratio = $0.96 ÷ $0.081 = 11.9x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to AYN, such as company lifetime and products sold. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 11.9x, AYN’s P/E is lower than its industry peers (12.2x). This implies that investors are undervaluing each dollar of AYN’s earnings. As such, our analysis shows that AYN represents an under-priced stock.
A few caveats
However, before you rush out to buy AYN, it is important to note that this conclusion is based on two key assumptions. The first is that our “similar companies” are actually similar to AYN, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with AYN, 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 AYN to are fairly valued by the market. If this is violated, AYN’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.