GasLog Ltd (NYSE:GLOG) trades with a trailing P/E of 57.6x, which is higher than the industry average of 13.7x. While GLOG 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 break down what the P/E ratio is, how to interpret it and what to watch out for. View our latest analysis for GasLog
What you need to know about the P/E ratio
A common ratio used for relative valuation is the P/E ratio. 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 GLOG
Price per share = $19.9
Earnings per share = $0.345
∴ Price-Earnings Ratio = $19.9 ÷ $0.345 = 57.6x
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 GLOG, such as size and country of operation. A quick method of creating a peer group is to use companies in the same industry, which is what I will 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.
Since GLOG’s P/E of 57.6x is higher than its industry peers (13.7x), it means that investors are paying more than they should for each dollar of GLOG’s earnings. As such, our analysis shows that GLOG represents an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your GLOG shares, 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 GLOG. 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 GLOG, then GLOG’s P/E would naturally be higher since investors would reward GLOG’s higher growth with a higher price. Alternatively, if you inadvertently compared riskier firms with GLOG, GLOG’s P/E would again be higher since investors would reward GLOG’s lower risk with a higher price as well. The second assumption that must hold true is that the stocks we are comparing GLOG to are fairly valued by the market. If this assumption is violated, GLOG’s P/E may be higher than its peers because its peers are actually undervalued by investors.
What this means for you:
Since you may have already conducted your due diligence on GLOG, the overvaluation of the stock may mean it is a good time to reduce 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 highly recommend you to complete your research by taking a look at the following:
- 1. Future Outlook: What are well-informed industry analysts predicting for GLOG’s future growth? Take a look at our free research report of analyst consensus for GLOG’s outlook.
- 2. Past Track Record: Has GLOG 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 GLOG’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.