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Morepen Laboratories Limited (NSEI:MOREPENLAB) trades with a trailing P/E of 74.4x, which is higher than the industry average of 29.5x. While this makes MOREPENLAB 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. In this article, I will break down what the P/E ratio is, how to interpret it and what to watch out for. Check out our latest analysis for Morepen Laboratories
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 MOREPENLAB
Price-Earnings Ratio = Price per share ÷ Earnings per share
MOREPENLAB Price-Earnings Ratio = ₹38.95 ÷ ₹0.523 = 74.4x
On its own, the P/E ratio doesn’t tell you much; however, it becomes extremely useful 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 MOREPENLAB, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. MOREPENLAB’s P/E of 74.4x is higher than its industry peers (29.5x), which implies that each dollar of MOREPENLAB’s earnings is being overvalued by investors. Therefore, according to this analysis, MOREPENLAB is an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your MOREPENLAB 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 MOREPENLAB, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with MOREPENLAB, then its P/E would naturally be lower since investors would reward its peers’ higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing MOREPENLAB to are fairly valued by the market. If this is violated, MOREPENLAB’s P/E may be lower than its peers as they are actually overvalued by investors.
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.