In This Article:
This analysis is intended to introduce important early concepts to people who are starting to invest and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
Kingmaker Footwear Holdings Limited (HKG:1170) is trading with a trailing P/E of 4.9x, which is lower than the industry average of 10.7x. While 1170 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 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 Kingmaker Footwear Holdings
What you need to know about 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. 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 1170
Price-Earnings Ratio = Price per share ÷ Earnings per share
1170 Price-Earnings Ratio = HK$1.78 ÷ HK$0.365 = 4.9x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as 1170, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. At 4.9, 1170’s P/E is lower than its industry peers (10.7). This implies that investors are undervaluing each dollar of 1170’s earnings. This multiple is a median of profitable companies of 24 Luxury companies in HK including Sterling Group Holdings, Victory City International Holdings and Hosa International. One could put it like this: the market is pricing 1170 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 1170, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with 1170, 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 1170 to are fairly valued by the market. If this is violated, 1170’s P/E may be lower than its peers as they are actually overvalued by investors.