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This article is intended for those of you who are at the beginning of your investing journey and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
Shreyans Industries Limited (NSE:SHREYANIND) is trading with a trailing P/E of 7x, which is lower than the industry average of 17.5x. While SHREYANIND might seem like an attractive stock to buy, 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.
See our latest analysis for Shreyans Industries
Breaking down the P/E 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 SHREYANIND
Price-Earnings Ratio = Price per share ÷ Earnings per share
SHREYANIND Price-Earnings Ratio = ₹169.1 ÷ ₹24.246 = 7x
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 SHREYANIND, 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. At 7x, SHREYANIND’s P/E is lower than its industry peers (17.5x). This implies that investors are undervaluing each dollar of SHREYANIND’s earnings. This multiple is a median of profitable companies of 23 Forestry companies in IN including Rama Paper Mills, Star Paper Mills and Star Paper Mills. As such, our analysis shows that SHREYANIND represents an under-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to buy SHREYANIND immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to SHREYANIND. 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 SHREYANIND, 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 SHREYANIND to are fairly valued by the market. If this does not hold true, SHREYANIND’s lower P/E ratio may be because firms in our peer group are overvalued by the market.