Should You Buy Thermo Fisher Scientific Inc (NYSE:TMO) At This PE Ratio?
Thermo Fisher Scientific Inc (NYSE:TMO) trades with a trailing P/E of 38.2x, which is lower than the industry average of 38.3x. While this makes TMO 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 break down what the P/E ratio is, how to interpret it and what to watch out for. See our latest analysis for Thermo Fisher Scientific
Breaking down 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 TMO
Price-Earnings Ratio = Price per share ÷ Earnings per share
TMO Price-Earnings Ratio = $216.55 ÷ $5.672 = 38.2x
On its own, the P/E ratio doesn’t tell you much; however, it becomes extremely useful 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 TMO, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. TMO’s P/E of 38.2x is lower than its industry peers (38.3x), which implies that each dollar of TMO’s earnings is being undervalued by investors. Therefore, according to this analysis, TMO is an under-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to buy TMO immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to TMO. 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 TMO, 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 TMO to are fairly valued by the market. If this does not hold true, TMO’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 TMO, the undervaluation of the stock may mean it is a good time to top up on 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:
Future Outlook: What are well-informed industry analysts predicting for TMO’s future growth? Take a look at our free research report of analyst consensus for TMO’s outlook.
Past Track Record: Has TMO 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 TMO’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 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.
