Lypsa Gems & Jewellery Limited (NSEI:LYPSAGEMS) is currently trading at a trailing P/E of 2.1x, which is lower than the industry average of 17.9x. While LYPSAGEMS 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 break down what the P/E ratio is, how to interpret it and what to watch out for. See our latest analysis for Lypsa Gems & Jewellery
Breaking down the P/E ratio
P/E is a popular ratio used for 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 LYPSAGEMS
Price per share = ₹21.45
Earnings per share = ₹10.01
∴ Price-Earnings Ratio = ₹21.45 ÷ ₹10.01 = 2.1x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Ideally, we want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as LYPSAGEMS, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use below. 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.
LYPSAGEMS’s P/E of 2.1x is lower than its industry peers (17.9x), which implies that each dollar of LYPSAGEMS’s earnings is being undervalued by investors. Therefore, according to this analysis, LYPSAGEMS is an under-priced stock.
Assumptions to watch out for
However, before you rush out to buy LYPSAGEMS, it is important to note that this conclusion is based on two key assumptions. The first is that our “similar companies” are actually similar to LYPSAGEMS. If the companies aren’t similar, the difference in P/E might be a result of other factors. For example, if you accidentally compared higher growth firms with LYPSAGEMS, then LYPSAGEMS’s P/E would naturally be lower since investors would reward its peers’ higher growth with a higher price. Alternatively, if you inadvertently compared less risky firms with LYPSAGEMS, LYPSAGEMS’s P/E would again be lower since investors would reward its peers’ lower risk with a higher price as well. The second assumption that must hold true is that the stocks we are comparing LYPSAGEMS to are fairly valued by the market. If this does not hold, there is a possibility that LYPSAGEMS’s P/E is lower because firms in our peer group are being overvalued by the market.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current undervaluation could signal a good buying opportunity to increase your exposure to LYPSAGEMS. Now that you understand the ins and outs of the PE metric, you should know to bear in mind its limitations before you make an investment decision. 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 LYPSAGEMS’s future growth? Take a look at our free research report of analyst consensus for LYPSAGEMS’s outlook.
- Past Track Record: Has LYPSAGEMS 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 LYPSAGEMS’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.