Kina Securities Limited (ASX:KSL) is currently trading at a trailing P/E of 12.8x, which is lower than the industry average of 18.3x. Although some investors may jump to the conclusion that this is a great buying opportunity, understanding the assumptions behind the P/E ratio might change your mind. Today, I will explain what the P/E ratio is as well as what you should look out for when using it. View our latest analysis for Kina Securities
Breaking down the Price-Earnings 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 KSL
Price-Earnings Ratio = Price per share ÷ Earnings per share
KSL Price-Earnings Ratio = 0.75 ÷ 0.143 = 12.8x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to KSL, 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. KSL’s P/E of 12.8x is lower than its industry peers (18.3x), which implies that each dollar of KSL’s earnings is being undervalued by investors. As such, our analysis shows that KSL represents an under-priced stock.
A few caveats
However, before you rush out to buy KSL, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to KSL. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared lower risk firms with KSL, then investors would naturally value it at a lower price since it is a riskier investment. The second assumption that must hold true is that the stocks we are comparing KSL to are fairly valued by the market. If this does not hold true, KSL’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
Are you a shareholder? You may have already conducted fundamental analysis on the stock as a shareholder, so its current undervaluation could signal a good buying opportunity to increase your exposure to KSL. 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.