This analysis is intended to introduce important early concepts to people who are starting to invest and want to learn about the link between company’s fundamentals and stock market performance.
Jindal Stainless (Hisar) Limited (NSE:JSLHISAR) is currently trading at a trailing P/E of 5x, which is lower than the industry average of 12.3x. While this makes JSLHISAR 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 Jindal Stainless (Hisar)
Demystifying the P/E ratio
P/E is often used for relative valuation since earnings power is a chief 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 JSLHISAR
Price-Earnings Ratio = Price per share ÷ Earnings per share
JSLHISAR Price-Earnings Ratio = ₹123.35 ÷ ₹24.5 = 5x
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 JSLHISAR, such as company lifetime and products sold. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. JSLHISAR’s P/E of 5 is lower than its industry peers (12.3), which implies that each dollar of JSLHISAR’s earnings is being undervalued by investors. This multiple is a median of profitable companies of 23 Metals and Mining companies in IN including Bhoruka Aluminium, Golkonda Aluminium Extrusions and Mukand. One could put it like this: the market is pricing JSLHISAR as if it is a weaker company than the average company in its industry.
Assumptions to watch out for
However, 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 JSLHISAR, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with JSLHISAR, 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 JSLHISAR to are fairly valued by the market. If this does not hold true, JSLHISAR’s lower P/E ratio may be because firms in our peer group are overvalued by the market.