Does Capital & Counties Properties PLC’s (LSE:CAPC) PE Ratio Warrant A Sell?
Capital & Counties Properties PLC (LSE:CAPC) trades with a trailing P/E of 101.7x, which is higher than the industry average of 11.8x. Although some investors may jump to the conclusion that you should avoid the stock or sell if you own it, understanding the assumptions behind the P/E ratio might change your mind. In this article, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. See our latest analysis for CAPC
Breaking down the Price-Earnings ratio
The P/E ratio is one of many ratios used in 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 pound of the company’s earnings.
P/E Calculation for CAPC
Price-Earnings Ratio = Price per share ÷ Earnings per share
CAPC Price-Earnings Ratio = 2.61 ÷ 0.026 = 101.7x
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 want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as CAPC, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. CAPC’s P/E of 101.7x is higher than its industry peers (11.8x), which implies that each dollar of CAPC’s earnings is being overvalued by investors. Therefore, according to this analysis, CAPC is an over-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that CAPC should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. Firstly, our peer group contains companies that are similar to CAPC. 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 CAPC, 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 CAPC to are fairly valued by the market. If this does not hold, there is a possibility that CAPC’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
Are you a shareholder? Since you may have already conducted your due diligence on CAPC, the overvaluation of the stock may mean it is a good time to reduce 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.
Are you a potential investor? If CAPC 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 Capital & Counties Properties 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.
