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Does FBD Holdings plc’s (ISE:EG7) PE Ratio Signal A Buying Opportunity?

This article is intended for those of you who are at the beginning of your investing journey and want to begin learning about how to value company based on its current earnings and what are the drawbacks of this method.

FBD Holdings plc (ISE:EG7) is trading with a trailing P/E of 7.7x, which is lower than the industry average of 12.8x. While this makes EG7 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 break down what the P/E ratio is, how to interpret it and what to watch out for.

What you need to know about the P/E ratio

The P/E ratio is a popular ratio used in relative valuation since earnings power is a key 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 EG7

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

EG7 Price-Earnings Ratio = €10.75 ÷ €1.399 = 7.7x

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 EG7, such as size and country of operation. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. Since EG7’s P/E of 7.7 is lower than its industry peers (12.8), it means that investors are paying less for each dollar of EG7’s earnings. Since the sector in is relatively small, I’ve included similar companies in the wider region in order to get a better idea of the multiple, which is a median of profitable companies of companies such as , and . You can think of it like this: the market is suggesting that EG7 is a weaker business than the average comparable company.

Assumptions to be aware of

However, 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 EG7, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with EG7, then investors would naturally value it at a lower price since it is a riskier investment. The second assumption that must hold true is that the stocks we are comparing EG7 to are fairly valued by the market. If this does not hold, there is a possibility that EG7’s P/E is lower because our peer group is overvalued by the market.

What this means for you:

Since you may have already conducted your due diligence on EG7, 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:

1. Future Outlook: What are well-informed industry analysts predicting for EG7’s future growth? Take a look at our free research report of analyst consensus for EG7’s outlook.
2. Past Track Record: Has EG7 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 EG7’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.