In This Article:
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.
Ind-Swift Laboratories Limited (NSE:INDSWFTLAB) trades with a trailing P/E of 12x, which is lower than the industry average of 23.8x. While INDSWFTLAB 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. Today, 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 Ind-Swift Laboratories
Demystifying the P/E ratio
A common ratio used for relative valuation is the P/E ratio. 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 INDSWFTLAB
Price-Earnings Ratio = Price per share ÷ Earnings per share
INDSWFTLAB Price-Earnings Ratio = ₹58.6 ÷ ₹4.864 = 12x
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 INDSWFTLAB, 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 12, INDSWFTLAB’s P/E is lower than its industry peers (23.8). This implies that investors are undervaluing each dollar of INDSWFTLAB’s earnings. This multiple is a median of profitable companies of 25 Pharmaceuticals companies in IN including Vasundhara Rasayans, Vivimed Labs and Vivimed Labs. One could put it like this: the market is pricing INDSWFTLAB 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 INDSWFTLAB, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with INDSWFTLAB, 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 INDSWFTLAB to are fairly valued by the market. If this does not hold, there is a possibility that INDSWFTLAB’s P/E is lower because our peer group is overvalued by the market.