latest

Should You Be Tempted To Buy Infinite Computer Solutions (India) Limited (NSE:INFINITE) Because Of Its PE Ratio?

The content of this article will benefit those of you who are starting to educate yourself about investing in the stock market and want to begin learning the link between Infinite Computer Solutions (India) Limited (NSE:INFINITE)’s fundamentals and stock market performance.

Infinite Computer Solutions (India) Limited (NSE:INFINITE) is trading with a trailing P/E of 13.8x, which is lower than the industry average of 18.3x. While this makes INFINITE 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 break down what the P/E ratio is, how to interpret it and what to watch out for.

Demystifying 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.

Formula

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

P/E Calculation for INFINITE

Price per share = ₹464.9

Earnings per share = ₹33.75

∴ Price-Earnings Ratio = ₹464.9 ÷ ₹33.75 = 13.8x

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 INFINITE, 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.

INFINITE’s P/E of 13.8x is lower than its industry peers (18.3x), which implies that each dollar of INFINITE’s earnings is being undervalued by investors. Therefore, according to this analysis, INFINITE is an under-priced stock.

Assumptions to watch out for

While our conclusion might prompt you to buy INFINITE immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to INFINITE. If the companies aren’t similar, the difference in P/E might be a result of other factors. For example, if you are inadvertently comparing lower risk firms with INFINITE, then INFINITE’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 INFINITE. In this case, INFINITE’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 INFINITE to are fairly valued by the market. If this assumption does not hold true, INFINITE’s lower P/E ratio may be 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 INFINITE. 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 highly recommend you to complete your research by taking a look at the following:

1. Financial Health: Is INFINITE’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.
2. Past Track Record: Has INFINITE 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 INFINITE’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.