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Does Allied Group Limited (HKG:373) Have A Good P/E Ratio?

This analysis is intended to introduce important early concepts to people who are starting to invest and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.

Allied Group Limited (HKG:373) trades with a trailing P/E of 2.7x, which is lower than the industry average of 7.4x. While this makes 373 appear like a great stock to buy, you might change your mind after I explain the assumptions behind the P/E ratio. Today, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio.

Check out our latest analysis for Allied Group

Breaking down the P/E ratio

SEHK:373 PE PEG Gauge October 30th 18
SEHK:373 PE PEG Gauge October 30th 18

A common ratio used for relative valuation is the P/E ratio. 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 373

Price-Earnings Ratio = Price per share ÷ Earnings per share

373 Price-Earnings Ratio = HK$41.4 ÷ HK$15.617 = 2.7x

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 373, 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. At 2.7, 373’s P/E is lower than its industry peers (7.4). This implies that investors are undervaluing each dollar of 373’s earnings. This multiple is a median of profitable companies of 16 Consumer Finance companies in HK including Vongroup, Zuoli Kechuang Micro-Finance and Allied Properties (H.K.). One could put it like this: the market is pricing 373 as if it is a weaker company than the average company in its industry.

A few caveats

Before you jump to conclusions it is important to realise that our assumptions rests on two assertions. The first is that our “similar companies” are actually similar to 373, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with 373, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing 373 to are fairly valued by the market. If this does not hold true, 373’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 373, 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 urge you to complete your research by taking a look at the following:

  1. Future Outlook: What are well-informed industry analysts predicting for 373’s future growth? Take a look at our free research report of analyst consensus for 373’s outlook.

  2. Past Track Record: Has 373 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 373’s historicals for more clarity.

  3. 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.

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