At $18.54, Is It Time To Buy Leon’s Furniture Limited (TSX:LNF)?
Leon’s Furniture Limited (TSX:LNF) is currently trading at a trailing P/E of 13.5x, which is lower than the industry average of 23.4x. Although some investors may jump to the conclusion that this is a great buying opportunity, 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. View our latest analysis for Leon’s Furniture
Demystifying the P/E ratio
P/E is a popular ratio used for relative valuation. 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 LNF
Price-Earnings Ratio = Price per share ÷ Earnings per share
LNF Price-Earnings Ratio = 18.54 ÷ 1.373 = 13.5x
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 LNF, such as size and country of operation. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. Since LNF’s P/E of 13.5x is lower than its industry peers (23.4x), it means that investors are paying less than they should for each dollar of LNF’s earnings. Therefore, according to this analysis, LNF is an under-priced stock.
A few caveats
Before you jump to the conclusion that LNF is the perfect buying opportunity, it is important to realise that our conclusion rests on two assertions. Firstly, our peer group contains companies that are similar to LNF. 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 LNF, 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 LNF to are fairly valued by the market. If this does not hold true, LNF’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
Are you a shareholder? If your personal research into the stock confirms what the P/E ratio is telling you, it might be a good time to add more of LNF to your portfolio. But keep in mind that the usefulness of relative valuation depends on whether you are comfortable with making the assumptions I mentioned above.
Are you a potential investor? If LNF has been on your watch list for a while, it is best you also consider its intrinsic valuation. Looking at PE on its own will not give you the full picture of the stock as an investment, so I suggest you should also look at other relative valuation metrics like EV/EBITDA or PEG.
PE is one aspect of your portfolio construction to consider when holding or entering into a stock. But it is certainly not the only factor. Take a look at our most recent infographic report on Leon’s Furniture for a more in-depth analysis of the stock to help you make a well-informed investment decision. Since we know a limitation of PE is it doesn’t properly account for growth, you can use our free platform to see my list of stocks with a high growth potential and see if their PE is still reasonable.
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.
