This analysis is intended to introduce important early concepts to people who are starting to invest and want to better understand how you can grow your money by investing in Cogeco Communications Inc (TSE:CCA).
Cogeco Communications Inc (TSE:CCA) is trading with a trailing P/E of 9.2x, which is lower than the industry average of 15.5x. Although some investors may jump to the conclusion that this is a great buying opportunity, understanding the assumptions behind the P/E ratio might change your mind. In this article, I will explain what the P/E ratio is as well as what you should look out for when using it. View out our latest analysis for Cogeco Communications
Breaking down the P/E ratio
The P/E ratio is one of many ratios used in relative valuation. 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 CCA
Price per share = CA$67.61
Earnings per share = CA$7.366
∴ Price-Earnings Ratio = CA$67.61 ÷ CA$7.366 = 9.2x
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. Ultimately, our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to CCA, such as company lifetime and products sold. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. Since it is expected that similar companies have similar P/E ratios, we can come to some conclusions about the stock if the ratios are different.
Since CCA's P/E of 9.2x is lower than its industry peers (15.5x), it means that investors are paying less than they should for each dollar of CCA's earnings. Therefore, according to this analysis, CCA is an under-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to buy CCA 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 CCA. 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 CCA, then CCA’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 CCA. In this case, CCA’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 CCA to are fairly valued by the market. If this does not hold, there is a possibility that CCA’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 CCA 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 highly recommend you to complete your research by taking a look at the following:
- Future Outlook: What are well-informed industry analysts predicting for CCA’s future growth? Take a look at our free research report of analyst consensus for CCA’s outlook.
- Past Track Record: Has CCA 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 CCA'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.