I am writing today to help inform people who are new to the stock market and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
Narmada Agrobase Limited (NSE:NARMADA) trades with a trailing P/E of 32.7, which is higher than the industry average of 21. While this might not seem positive, 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 Narmada Agrobase
What you need to know about 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 NARMADA
Price-Earnings Ratio = Price per share ÷ Earnings per share
NARMADA Price-Earnings Ratio = ₹27.5 ÷ ₹0.841 = 32.7x
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 NARMADA, such as company lifetime and products sold. A common peer group is companies that exist in the same industry, which is what I use. NARMADA’s P/E of 32.7 is higher than its industry peers (21), which implies that each dollar of NARMADA’s earnings is being overvalued by investors. This multiple is a median of profitable companies of 25 Food companies in IN including Saboo Sodium Chloro, Halder Venture and Magadh Sugar & Energy. You could also say that the market is suggesting that NARMADA is a stronger business than the average comparable company.
Assumptions to be aware of
However, it is important to note that our examination of the stock is based on certain assumptions. Firstly, that our peer group contains companies that are similar to NARMADA. If this isn’t the case, the difference in P/E could be due to other factors. For example, Narmada Agrobase Limited could be growing more quickly than the companies we’re comparing it with. In that case it would deserve a higher P/E ratio. We should also be aware that the stocks we are comparing to NARMADA may not be fairly valued. So while we can reasonably surmise that it is optimistically valued relative to a peer group, it might be fairly valued, if the peer group is undervalued.