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Is Nimble Holdings Company Limited (HKG:186) A Sell At Its Current PE Ratio?

Nimble Holdings Company Limited (HKG:186) is currently trading at a trailing P/E of 34x, which is higher than the industry average of 17.4x. While this makes 186 appear like a stock to avoid or sell if you own it, you might change your mind after I explain the assumptions behind the P/E ratio. In this article, I will break down what the P/E ratio is, how to interpret it and what to watch out for.

Breaking down the P/E ratio

A common ratio used for relative valuation is the P/E ratio. 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.

Formula

Price-Earnings Ratio = Price per share ÷ Earnings per share

P/E Calculation for 186

Price per share = HK\$1.02

Earnings per share = HK\$0.0300

∴ Price-Earnings Ratio = HK\$1.02 ÷ HK\$0.0300 = 34x

The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. We preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to 186, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. 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.

At 34x, 186’s P/E is higher than its industry peers (17.4x). This implies that investors are overvaluing each dollar of 186’s earnings. This multiple is a median of profitable companies of 17 Retail Distributors companies in HK including Sparkle Roll Group, Eminence Enterprise and G.A. Holdings. As such, our analysis shows that 186 represents an over-priced stock.

Assumptions to watch out for

While our conclusion might prompt you to sell your 186 shares 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 186. If this isn’t the case, the difference in P/E could be due to some other factors. For example, if you accidentally compared lower growth firms with 186, then 186’s P/E would naturally be higher since investors would reward 186’s higher growth with a higher price. Alternatively, if you inadvertently compared riskier firms with 186, 186’s P/E would again be higher since investors would reward 186’s lower risk with a higher price as well. The second assumption that must hold true is that the stocks we are comparing 186 to are fairly valued by the market. If this does not hold, there is a possibility that 186’s P/E is higher because firms in our peer group are being undervalued by the market.

What this means for you:

Since you may have already conducted your due diligence on 186, the overvaluation of the stock may mean it is a good time to reduce your current holdings. But at the end of the day, keep in mind that relative valuation relies heavily on critical assumptions I’ve outlined 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:

1. Future Outlook: What are well-informed industry analysts predicting for 186’s future growth? Take a look at our free research report of analyst consensus for 186’s outlook.
2. Past Track Record: Has 186 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 186’s historicals for more clarity.
3. 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.