What Does Loma Negra Compañía Industrial Argentina Sociedad Anónima's (NYSE:LOMA) PE Ratio Tell You?

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 about how to value company based on its current earnings and what are the drawbacks of this method.

Loma Negra Compañía Industrial Argentina Sociedad Anónima (NYSE:LOMA) trades with a trailing P/E of 19.5x, which is higher than the industry average of 16.9x. While this makes LOMA appear like a stock to avoid or sell if you own it, 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.

View our latest analysis for Loma Negra Compañía Industrial Argentina Sociedad Anónima

Breaking down the Price-Earnings 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.

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 LOMA, such as company lifetime and products sold. 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.

Since LOMA's P/E of 19.5x is higher than its industry peers (16.9x), it means that investors are paying more than they should for each dollar of LOMA's earnings. This multiple is a median of profitable companies of 25 Basic Materials companies in US including China Infrastructure Construction, World Wide Stone and China Runji Cement. As such, our analysis shows that LOMA represents an over-priced stock.

Assumptions to be aware of

While our conclusion might prompt you to sell your LOMA 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 LOMA. 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 LOMA, then LOMA’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 LOMA. In this case, LOMA’s P/E would be higher since investors would also reward LOMA’s higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing LOMA to are fairly valued by the market. If this assumption does not hold true, LOMA’s higher P/E ratio may be because firms in our peer group are being undervalued by the market.

What this means for you:

Since you may have already conducted your due diligence on LOMA, 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 urge you to complete your research by taking a look at the following:

1. Future Outlook: What are well-informed industry analysts predicting for LOMA’s future growth? Take a look at our free research report of analyst consensus for LOMA’s outlook.
2. Past Track Record: Has LOMA 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 LOMA'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.

To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.

Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.