I am writing today to help inform people who are new to the stock market and want to begin learning about how to value company based on its current earnings and what are the drawbacks of this method.
Österreichische Staatsdruckerei Holding AG (VIE:OESD) is trading with a trailing P/E of 37.2, which is higher than the industry average of 17.8. Though this might seem to be a negative, you might change your mind after I explain the assumptions behind the P/E ratio. Today, 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 Österreichische Staatsdruckerei Holding
What you need to know about 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 OESD
Price-Earnings Ratio = Price per share ÷ Earnings per share
OESD Price-Earnings Ratio = €17.9 ÷ €0.482 = 37.2x
On its own, the P/E ratio doesn’t tell you much; however, it becomes extremely useful 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 OESD, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. Since OESD’s P/E of 37.2 is higher than its industry peers (17.8), it means that investors are paying more for each dollar of OESD’s earnings. Since the Electronic sector in AT is relatively small, I’ve included similar companies in the wider region in order to get a better idea of the multiple, which is a median of profitable companies of companies such as AT & S Austria Technologie & Systemtechnik, Kapsch TrafficCom and . You could think of it like this: the market is pricing OESD as if it is a stronger company than the average of its industry group.
A few caveats
Before you jump to conclusions it is important to realise that there are assumptions in this analysis. The first is that our “similar companies” are actually similar to OESD. If not, the difference in P/E might be a result of other factors. For example, if Österreichische Staatsdruckerei Holding AG is growing faster than its peers, then it would deserve a higher P/E ratio. Of course, it is possible that the stocks we are comparing with OESD are not fairly valued. Thus while we might conclude that it is richly valued relative to its peers, that could be explained by the peer group being undervalued.