Does First Financial Bankshares Inc’s (NASDAQ:FFIN) PE Ratio Signal A Selling Opportunity?
This analysis is intended to introduce important early concepts to people who are starting to invest and want to begin learning about how to value company based on its current earnings and what are the drawbacks of this method.
First Financial Bankshares Inc (NASDAQ:FFIN) trades with a trailing P/E of 29.1, which is higher than the industry average of 17.9. Although some investors may see this as unappealing, it is important to understand the assumptions behind the P/E ratio before making judgments. 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 First Financial Bankshares
Demystifying the P/E ratio
The P/E ratio is one of many ratios used in 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 FFIN
Price-Earnings Ratio = Price per share ÷ Earnings per share
FFIN Price-Earnings Ratio = $59.9 ÷ $2.059 = 29.1x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful 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 FFIN, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. At 29.1, FFIN’s P/E is higher than its industry peers (17.9). This implies that investors are overvaluing each dollar of FFIN’s earnings. This multiple is a median of profitable companies of 25 Banks companies in US including Great Basin Financial, Mercantil Servicios Financieros C.A and CIB Marine Bancshares. You could think of it like this: the market is pricing FFIN as if it is a stronger company than the average of its industry group.
Assumptions to watch out for
However, it is important to note that our examination of the stock is based on certain assumptions. The first is that our “similar companies” are actually similar to FFIN. If not, the difference in P/E might be a result of other factors. For example, if First Financial Bankshares Inc is growing faster than its peers, then it would deserve a higher P/E ratio. We should also be aware that the stocks we are comparing to FFIN may not be fairly valued. Thus while we might conclude that it is richly valued relative to its peers, that could be explained by the peer group being undervalued.
What this means for you:
Since you may have already conducted your due diligence on FFIN, 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. 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 FFIN’s future growth? Take a look at our free research report of analyst consensus for FFIN’s outlook.
Past Track Record: Has FFIN 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 FFIN’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 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.
