Oritani Financial Corp (NASDAQ:ORIT) trades with a trailing P/E of 14.8x, which is lower than the industry average of 19.6x. 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. Today, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. View our latest analysis for Oritani Financial
What you need to know about the P/E ratio
P/E is often used for relative valuation since earnings power is a chief driver of investment value. 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 ORIT
Price-Earnings Ratio = Price per share ÷ Earnings per share
ORIT Price-Earnings Ratio = 16.85 ÷ 1.136 = 14.8x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to ORIT, such as company lifetime and products sold. A common peer group is companies that exist in the same industry, which is what I use. At 14.8x, ORIT’s P/E is lower than its industry peers (19.6x). This implies that investors are undervaluing each dollar of ORIT’s earnings. As such, our analysis shows that ORIT represents an under-priced stock.
A few caveats
While our conclusion might prompt you to buy ORIT immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to ORIT. 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 ORIT, 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 ORIT to are fairly valued by the market. If this does not hold, there is a possibility that ORIT’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
Are you a shareholder? You may have already conducted fundamental analysis on the stock as a shareholder, so its current undervaluation could signal a good buying opportunity to increase your exposure to ORIT. 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.
Are you a potential investor? If ORIT 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 Oritani Financial 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.