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ELEn. S.p.A. (BIT:ELN) is currently trading at a trailing P/E of 35.8x, which is higher than the industry average of 35.4x. While ELN 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. 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 EL.En
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. 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 ELN
Price-Earnings Ratio = Price per share ÷ Earnings per share
ELN Price-Earnings Ratio = €29 ÷ €0.81 = 35.8x
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 ELN, such as company lifetime and products sold. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. ELN’s P/E of 35.8x is higher than its industry peers (35.4x), which implies that each dollar of ELN’s earnings is being overvalued by investors. Therefore, according to this analysis, ELN is an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your ELN shares, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to ELN. 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 ELN, 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 ELN to are fairly valued by the market. If this is violated, ELN’s P/E may be lower than its peers as they are actually overvalued by investors.
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 ELN. 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: