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Globe International Limited (ASX:GLB) is currently trading at a trailing P/E of 8.8x, which is lower than the industry average of 19.6x. While GLB 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 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 Globe International
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. 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 GLB
Price-Earnings Ratio = Price per share ÷ Earnings per share
GLB Price-Earnings Ratio = A$1.27 ÷ A$0.145 = 8.8x
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 GLB, 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 8.8x, GLB’s P/E is lower than its industry peers (19.6x). This implies that investors are undervaluing each dollar of GLB’s earnings. Therefore, according to this analysis, GLB is an under-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to buy GLB immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to GLB. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you are comparing lower risk firms with GLB, 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 GLB to are fairly valued by the market. If this does not hold true, GLB’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
Since you may have already conducted your due diligence on GLB, 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. 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: