Monobank ASA (OB:MONO-ME) trades with a trailing P/E of 40x, which is higher than the industry average of 9x. Although some investors may jump to the conclusion that you should avoid the stock or sell if you own it, understanding the assumptions behind the P/E ratio might change your mind. 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 Monobank
Breaking down the Price-Earnings 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 MONO-ME
Price-Earnings Ratio = Price per share ÷ Earnings per share
MONO-ME Price-Earnings Ratio = NOK2.89 ÷ NOK0.072 = 40x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. We preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to MONO-ME, such as capital structure and profitability. A common peer group is companies that exist in the same industry, which is what I use. At 40x, MONO-ME’s P/E is higher than its industry peers (9x). This implies that investors are overvaluing each dollar of MONO-ME’s earnings. As such, our analysis shows that MONO-ME represents an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your MONO-ME shares, 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 MONO-ME, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with MONO-ME, 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 MONO-ME to are fairly valued by the market. If this does not hold, there is a possibility that MONO-ME’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
Since you may have already conducted your due diligence on MONO-ME, the overvaluation of the stock may mean it is a good time to reduce 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 highly recommend you to complete your research by taking a look at the following: