Kartonpack Dobozipari Nyrt (BUSE:KPACK) is trading with a trailing P/E of 38x, which is higher than the industry average of 18.6x. Although some investors may jump to the conclusion that you should avoid the stock or sell if you own it, understanding the assumptions behind the P/E ratio might change your mind. 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 Kartonpack Dobozipari Nyrt
What you need to know about the P/E ratio
The P/E ratio is a popular ratio used in relative valuation since earnings power is a key driver of investment value. 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.
P/E Calculation for KPACK
Price-Earnings Ratio = Price per share ÷ Earnings per share
KPACK Price-Earnings Ratio = HUF9000 ÷ HUF236.906 = 38x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as KPACK, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. Since KPACK’s P/E of 38x is higher than its industry peers (18.6x), it means that investors are paying more than they should for each dollar of KPACK’s earnings. As such, our analysis shows that KPACK represents an over-priced stock.
Assumptions to be aware of
Before you jump to the conclusion that KPACK should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to KPACK, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with KPACK, then investors would naturally value it at a lower price since it is a riskier investment. The second assumption that must hold true is that the stocks we are comparing KPACK to are fairly valued by the market. If this does not hold true, KPACK’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 rebalance your portfolio and reduce your holdings in KPACK. 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 urge you to complete your research by taking a look at the following: