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QV Equities Limited (ASX:QVE) is currently trading at a trailing P/E of 33.5x, which is higher than the industry average of 18.3x. While QVE might seem like a stock to avoid or sell if you own it, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. In this article, I will break down what the P/E ratio is, how to interpret it and what to watch out for. Check out our latest analysis for QV Equities
Breaking down the Price-Earnings ratio
P/E is a popular ratio used for relative valuation. 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 QVE
Price-Earnings Ratio = Price per share ÷ Earnings per share
QVE Price-Earnings Ratio = A$1.14 ÷ A$0.034 = 33.5x
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 want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as QVE, 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. QVE’s P/E of 33.5x is higher than its industry peers (18.3x), which implies that each dollar of QVE’s earnings is being overvalued by investors. As such, our analysis shows that QVE represents an over-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that QVE should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. Firstly, our peer group contains companies that are similar to QVE. 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 QVE, 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 QVE to are fairly valued by the market. If this does not hold, there is a possibility that QVE’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to QVE. 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. 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: