Giglio Group Sp.A. (BIT:GGTV) is currently trading at a trailing P/E of 107.3x, which is higher than the industry average of 23.6x. While this makes GGTV appear like a stock to avoid or sell if you own it, you might change your mind after I explain the assumptions behind the P/E ratio. Today, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. View our latest analysis for Giglio Group
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.
P/E Calculation for GGTV
Price-Earnings Ratio = Price per share ÷ Earnings per share
GGTV Price-Earnings Ratio = €5.78 ÷ €0.054 = 107.3x
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 want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as GGTV, such as size and country of operation. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 107.3x, GGTV’s P/E is higher than its industry peers (23.6x). This implies that investors are overvaluing each dollar of GGTV’s earnings. As such, our analysis shows that GGTV represents an over-priced stock.
A few caveats
Before you jump to the conclusion that GGTV should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to GGTV, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with GGTV, then its P/E would naturally be lower since investors would reward its peers’ higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing GGTV to are fairly valued by the market. If this is violated, GGTV’s P/E may be lower than its peers as they are actually overvalued by investors.
What this means for you:
If your personal research into the stock confirms what the P/E ratio is telling you, it might be a good time to rebalance your portfolio and reduce your holdings in GGTV. But keep in mind that the usefulness of relative valuation depends on whether you are comfortable with making the assumptions I mentioned above. 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 highly recommend you to complete your research by taking a look at the following: