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Eco-Tek Holdings Limited (SEHK:8169) is currently trading at a trailing P/E of 19.8x, which is lower than the industry average of 22.3x. While 8169 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 break down what the P/E ratio is, how to interpret it and what to watch out for. View our latest analysis for Eco-Tek Holdings
Breaking down the Price-Earnings 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 8169
Price-Earnings Ratio = Price per share ÷ Earnings per share
8169 Price-Earnings Ratio = HK$0.17 ÷ HK$0.009 = 19.8x
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 8169, 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 19.8x, 8169’s P/E is lower than its industry peers (22.3x). This implies that investors are undervaluing each dollar of 8169’s earnings. Therefore, according to this analysis, 8169 is an under-priced stock.
A few caveats
Before you jump to the conclusion that 8169 is the perfect buying opportunity, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to 8169, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with 8169, 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 8169 to are fairly valued by the market. If this is violated, 8169’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 undervaluation could signal a good buying opportunity to increase your exposure to 8169. 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 highly recommend you to complete your research by taking a look at the following: