AksharChem (India) Limited (NSEI:AKSCHEM) is trading with a trailing P/E of 14x, which is lower than the industry average of 22.1x. While AKSCHEM might seem like an attractive stock to buy, 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 AksharChem (India)
Breaking down the Price-Earnings 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.
P/E Calculation for AKSCHEM
Price-Earnings Ratio = Price per share ÷ Earnings per share
AKSCHEM Price-Earnings Ratio = ₹602.05 ÷ ₹42.921 = 14x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to AKSCHEM, such as company lifetime and products sold. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. At 14x, AKSCHEM’s P/E is lower than its industry peers (22.1x). This implies that investors are undervaluing each dollar of AKSCHEM’s earnings. As such, our analysis shows that AKSCHEM represents an under-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that AKSCHEM is the perfect buying opportunity, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to AKSCHEM, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with AKSCHEM, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing AKSCHEM to are fairly valued by the market. If this does not hold true, AKSCHEM’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
If your personal research into the stock confirms what the P/E ratio is telling you, it might be a good time to add more of AKSCHEM to your portfolio. But keep in mind that the usefulness of relative valuation depends on whether you are comfortable with making the assumptions I mentioned 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: