SORIL Infra Resources Limited (NSEI:SORILINFRA) is currently trading at a trailing P/E of 43.3x, which is higher than the industry average of 30.1x. Although some investors may jump to the conclusion that you should avoid the stock or sell if you own it, understanding the assumptions behind the P/E ratio might change your mind. In this article, I will break down what the P/E ratio is, how to interpret it and what to watch out for. See our latest analysis for SORIL Infra Resources
What you need to know about 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.
Price-Earnings Ratio = Price per share ÷ Earnings per share
P/E Calculation for SORILINFRA
Price per share = ₹266.05
Earnings per share = ₹6.14
∴ Price-Earnings Ratio = ₹266.05 ÷ ₹6.14 = 43.3x
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 SORILINFRA, 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 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 43.3x, SORILINFRA’s P/E is higher than its industry peers (30.1x). This implies that investors are overvaluing each dollar of SORILINFRA’s earnings. As such, our analysis shows that SORILINFRA represents an over-priced stock.
Assumptions to be aware of
While our conclusion might prompt you to sell your SORILINFRA shares immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to SORILINFRA. If the companies aren’t similar, the difference in P/E might be a result of other factors. For example, if you accidentally compared lower growth firms with SORILINFRA, then SORILINFRA’s P/E would naturally be higher since investors would reward SORILINFRA’s higher growth with a higher price. Alternatively, if you inadvertently compared riskier firms with SORILINFRA, SORILINFRA’s P/E would again be higher since investors would reward SORILINFRA’s lower risk with a higher price as well. The second assumption that must hold true is that the stocks we are comparing SORILINFRA to are fairly valued by the market. If this does not hold, there is a possibility that SORILINFRA’s P/E is higher because firms in our peer group are being undervalued 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 rebalance your portfolio and reduce your holdings in SORILINFRA. 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:
- Financial Health: Is SORILINFRA’s operations financially sustainable? Balance sheets can be hard to analyze, which is why we’ve done it for you. Check out our financial health checks here.
- Past Track Record: Has SORILINFRA 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 SORILINFRA’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.