Yahoo Finance Should You Be Tempted To Sell Strongco Corporation (TSE:SQP) Because Of Its PE Ratio?
I am writing today to help inform people who are new to the stock market and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
Strongco Corporation (TSE:SQP) is currently trading at a trailing P/E of 29.6, which is higher than the industry average of 14.1. While this might not seem positive, 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.
Check out our latest analysis for Strongco
Breaking down the Price-Earnings 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 SQP
Price-Earnings Ratio = Price per share ÷ Earnings per share
SQP Price-Earnings Ratio = CA$2.58 ÷ CA$0.0873 = 29.6x
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 preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to SQP, such as capital structure and profitability. A common peer group is companies that exist in the same industry, which is what I use. At 29.6, SQP’s P/E is higher than its industry peers (14.1). This implies that investors are overvaluing each dollar of SQP’s earnings. This multiple is a median of profitable companies of 11 Trade Distributors companies in CA including Rocky Mountain Dealerships, Cervus Equipment and Russel Metals. You could also say that the market is suggesting that SQP is a stronger business than the average comparable company.
A few caveats
However, it is important to note that our examination of the stock is based on certain assumptions. Firstly, that our peer group contains companies that are similar to SQP. If this isn’t the case, the difference in P/E could be due to other factors. For example, if Strongco Corporation is growing faster than its peers, then it would deserve a higher P/E ratio. We should also be aware that the stocks we are comparing to SQP may not be fairly valued. So while we can reasonably surmise that it is optimistically valued relative to a peer group, it might be fairly valued, if the peer group is undervalued.
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 SQP. 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:
Financial Health: Are SQP’s operations financially sustainable? Balance sheets can be hard to analyze, which is why we’ve done it for you. Check out our financial health checks here.
Past Track Record: Has SQP been consistently performing well irrespective of the ups and downs in the market? Go into more detail in the past performance analysis and take a look at the free visual representations of SQP’s historicals for more clarity.
Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
To help readers see past 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. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
