This analysis is intended to introduce important early concepts to people who are starting to invest and want to begin learning the link between Shriram Transport Finance Company Limited (NSE:SRTRANSFIN)’s fundamentals and stock market performance.
Shriram Transport Finance Company Limited (NSE:SRTRANSFIN) is currently trading at a trailing P/E of 18.9x, which is lower than the industry average of 24.6x. While this makes SRTRANSFIN appear like a great stock to buy, you might change your mind after I explain the assumptions behind the P/E ratio. 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 Shriram Transport Finance
Demystifying 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.
Price-Earnings Ratio = Price per share ÷ Earnings per share
P/E Calculation for SRTRANSFIN
Price per share = ₹1298.45
Earnings per share = ₹68.615
∴ Price-Earnings Ratio = ₹1298.45 ÷ ₹68.615 = 18.9x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Ultimately, our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to SRTRANSFIN, such as company lifetime and products sold. A common peer group is companies that exist in the same industry, which is what I use below. Since similar companies should technically have similar P/E ratios, we can very quickly come to some conclusions about the stock if the ratios differ.
Since SRTRANSFIN’s P/E of 18.9x is lower than its industry peers (24.6x), it means that investors are paying less than they should for each dollar of SRTRANSFIN’s earnings. This multiple is a median of profitable companies of 25 Consumer Finance companies in IN including Wall Street Finance, SI Capital & Financial Services and Nalin Lease Finance. As such, our analysis shows that SRTRANSFIN represents an under-priced stock.
Assumptions to be aware of
While our conclusion might prompt you to buy SRTRANSFIN immediately, there are two important assumptions you should be aware of. The first is that our peer group actually contains companies that are similar to SRTRANSFIN. If this isn’t the case, the difference in P/E could be due to some other factors. For example, if you are inadvertently comparing lower risk firms with SRTRANSFIN, then SRTRANSFIN’s P/E would naturally be lower than its peers, since investors would value those with lower risk with a higher price. The other possibility is if you were accidentally comparing higher growth firms with SRTRANSFIN. In this case, SRTRANSFIN’s P/E would be lower since investors would also reward its peers’ higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing SRTRANSFIN to are fairly valued by the market. If this does not hold, there is a possibility that SRTRANSFIN’s P/E is lower because firms in our peer group are being overvalued by the market.
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 add more of SRTRANSFIN to your portfolio. 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 urge you to complete your research by taking a look at the following:
- Future Outlook: What are well-informed industry analysts predicting for SRTRANSFIN’s future growth? Take a look at our free research report of analyst consensus for SRTRANSFIN’s outlook.
- Past Track Record: Has SRTRANSFIN been consistently performing well irrespective of the ups and downs in the market? Go into more detail in the past performance analysis and take a look at the free visual representations of SRTRANSFIN’s historicals for more clarity.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.