Is Gujarat Mineral Development Corporation Limited (NSE:GMDCLTD) Attractive At Its Current PE Ratio?
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The content of this article will benefit those of you who are starting to educate yourself about investing in 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.
Gujarat Mineral Development Corporation Limited (NSE:GMDCLTD) trades with a trailing P/E of 8.5x, which is lower than the industry average of 10.6x. While this makes GMDCLTD appear like a great stock to buy, 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.
Check out our latest analysis for Gujarat Mineral Development
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.
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P/E Calculation for GMDCLTD
Price-Earnings Ratio = Price per share ÷ Earnings per share
GMDCLTD Price-Earnings Ratio = ₹94.2 ÷ ₹11.103 = 8.5x
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 GMDCLTD, 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. At 8.5, GMDCLTD’s P/E is lower than its industry peers (10.6). This implies that investors are undervaluing each dollar of GMDCLTD’s earnings. This multiple is a median of profitable companies of 18 Oil and Gas companies in IN including Chennai Petroleum, Hindustan Petroleum and Indian Oil. One could put it like this: the market is pricing GMDCLTD as if it is a weaker company than the average company in its industry.
Assumptions to be aware of
However, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to GMDCLTD, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with GMDCLTD, 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 GMDCLTD to are fairly valued by the market. If this does not hold, there is a possibility that GMDCLTD’s P/E is lower because our peer group is overvalued by the market.