Pathfinder Bancorp Inc (NASDAQ:PBHC) is currently trading at a trailing P/E of 17.5x, which is lower than the industry average of 20.1x. While this makes PBHC appear like a great stock to buy, you might change your mind after I explain the assumptions behind the P/E ratio. 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 Pathfinder Bancorp
Breaking down the Price-Earnings 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 PBHC
Price-Earnings Ratio = Price per share ÷ Earnings per share
PBHC Price-Earnings Ratio = $15.48 ÷ $0.883 = 17.5x
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 preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to PBHC, such as capital structure and profitability. A common peer group is companies that exist in the same industry, which is what I use. PBHC’s P/E of 17.5x is lower than its industry peers (20.1x), which implies that each dollar of PBHC’s earnings is being undervalued by investors. As such, our analysis shows that PBHC represents an under-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that PBHC 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 PBHC. 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 PBHC, 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 PBHC to are fairly valued by the market. If this does not hold true, PBHC’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
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.