Hock Lian Seng Holdings Limited (SGX:J2T) trades with a trailing P/E of 12x, which is lower than the industry average of 12.1x. While this makes J2T 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 explain what the P/E ratio is as well as what you should look out for when using it. View our latest analysis for Hock Lian Seng Holdings
Breaking down the P/E ratio
The P/E ratio is one of many ratios used in relative valuation. 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 J2T
Price per share = SGD0.47
Earnings per share = SGD0.039
∴ Price-Earnings Ratio = SGD0.47 ÷ SGD0.039 = 12x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful 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 J2T, 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 J2T’s P/E of 12x is lower than its industry peers (12.1x), it means that investors are paying less than they should for each dollar of J2T’s earnings. Therefore, according to this analysis, J2T is an under-priced stock.
A few caveats
While our conclusion might prompt you to buy J2T immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to J2T. 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 J2T, then J2T’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 J2T, J2T’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 J2T to are fairly valued by the market. If this assumption does not hold true, J2T’s lower P/E ratio may be because firms in our peer group are being overvalued by the market.
What this means for you:
Since you may have already conducted your due diligence on J2T, the undervaluation of the stock may mean it is a good time to top up on 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:
- Future Outlook: What are well-informed industry analysts predicting for J2T’s future growth? Take a look at our free research report of analyst consensus for J2T’s outlook.
- Past Track Record: Has J2T 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 J2T’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.