Asian Pay Television Trust (SGX:S7OU) is currently trading at a trailing P/E of 19.3x, which is higher than the industry average of 16.7x. While S7OU might seem like a stock to avoid or sell if you own it, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. In this article, I will explain what the P/E ratio is as well as what you should look out for when using it. Check out our latest analysis for Asian Pay Television Trust
Breaking down the P/E ratio
P/E is often used for relative valuation since earnings power is a chief driver of investment value. 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 S7OU
Price per share = SGD0.49
Earnings per share = SGD0.025
∴ Price-Earnings Ratio = SGD0.49 ÷ SGD0.025 = 19.3x
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 S7OU, such as capital structure and profitability. 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.
S7OU’s P/E of 19.3x is higher than its industry peers (16.7x), which implies that each dollar of S7OU’s earnings is being overvalued by investors. As such, our analysis shows that S7OU represents an over-priced stock.
Assumptions to be aware of
While our conclusion might prompt you to sell your S7OU 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 S7OU. If this isn’t the case, the difference in P/E could be due to some other factors. For example, if you are inadvertently comparing riskier firms with S7OU, then S7OU’s P/E would naturally be higher than its peers since investors would reward its lower risk with a higher price. The other possibility is if you were accidentally comparing lower growth firms with S7OU. In this case, S7OU’s P/E would be higher since investors would also reward S7OU’s higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing S7OU to are fairly valued by the market. If this assumption does not hold true, S7OU’s higher P/E ratio may be because firms in our peer group are being undervalued by the market.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to S7OU. 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:
- Future Outlook: What are well-informed industry analysts predicting for S7OU’s future growth? Take a look at our free research report of analyst consensus for S7OU’s outlook.
- Past Track Record: Has S7OU 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 S7OU’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.