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Floridienne SA. (ENXTBR:FLOB) is trading with a trailing P/E of 30.6x, which is higher than the industry average of 29.1x. 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 break down what the P/E ratio is, how to interpret it and what to watch out for. Check out our latest analysis for Floridienne
What you need to know about the P/E ratio
P/E is a popular ratio used for 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 FLOB
Price-Earnings Ratio = Price per share ÷ Earnings per share
FLOB Price-Earnings Ratio = €216 ÷ €7.05 = 30.6x
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 preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to FLOB, such as capital structure and profitability. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 30.6x, FLOB’s P/E is higher than its industry peers (29.1x). This implies that investors are overvaluing each dollar of FLOB’s earnings. As such, our analysis shows that FLOB represents an over-priced stock.
Assumptions to be aware of
Before you jump to the conclusion that FLOB should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. Firstly, our peer group contains companies that are similar to FLOB. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared higher growth firms with FLOB, 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 FLOB to are fairly valued by the market. If this does not hold true, FLOB’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
Since you may have already conducted your due diligence on FLOB, 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 highly recommend you to complete your research by taking a look at the following: