Does Denny’s Corporation’s (NASDAQ:DENN) PE Ratio Signal A Selling Opportunity?
Denny’s Corporation (NASDAQ:DENN) trades with a trailing P/E of 29.3x, which is higher than the industry average of 22.1x. 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. 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 Denny’s
What you need to know about 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 DENN
Price-Earnings Ratio = Price per share ÷ Earnings per share
DENN Price-Earnings Ratio = $17.02 ÷ $0.582 = 29.3x
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 want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as DENN, such as size and country of operation. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 29.3x, DENN’s P/E is higher than its industry peers (22.1x). This implies that investors are overvaluing each dollar of DENN’s earnings. As such, our analysis shows that DENN represents an over-priced stock.
A few caveats
However, before you rush out to sell your DENN shares, it is important to note that this conclusion is based on two key assumptions. The first is that our “similar companies” are actually similar to DENN, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with DENN, 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 DENN to are fairly valued by the market. If this does not hold true, DENN’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to DENN. 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. 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:
Future Outlook: What are well-informed industry analysts predicting for DENN’s future growth? Take a look at our free research report of analyst consensus for DENN’s outlook.
Past Track Record: Has DENN 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 DENN’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.
