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Avio Sp.A. (BIT:AVIO) is trading with a trailing P/E of 172.8x, which is higher than the industry average of 21.8x. 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. In this article, I will explain what the P/E ratio is as well as what you should look out for when using it. Check out our latest analysis for Avio
Breaking down the Price-Earnings 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 AVIO
Price-Earnings Ratio = Price per share ÷ Earnings per share
AVIO Price-Earnings Ratio = €15.08 ÷ €0.087 = 172.8x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as AVIO, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. At 172.8x, AVIO’s P/E is higher than its industry peers (21.8x). This implies that investors are overvaluing each dollar of AVIO’s earnings. Therefore, according to this analysis, AVIO is an over-priced stock.
Assumptions to watch out for
However, before you rush out to sell your AVIO shares, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to AVIO. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you are comparing lower risk firms with AVIO, 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 AVIO to are fairly valued by the market. If this does not hold, there is a possibility that AVIO’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to AVIO. Now that you understand the ins and outs of the PE metric, you should know to bear in mind its limitations before you make an investment decision. 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: