Does Medpace Holdings Inc’s (NASDAQ:MEDP) PE Ratio Warrant A Buy?
Medpace Holdings Inc (NASDAQ:MEDP) is trading with a trailing P/E of 34x, which is lower than the industry average of 39.1x. While MEDP might seem like an attractive stock to buy, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. Today, I will break down what the P/E ratio is, how to interpret it and what to watch out for. See our latest analysis for Medpace Holdings
Breaking down the P/E ratio
P/E is often used for relative valuation since earnings power is a chief 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 MEDP
Price-Earnings Ratio = Price per share ÷ Earnings per share
MEDP Price-Earnings Ratio = $34.03 ÷ $1.002 = 34x
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 MEDP, such as capital structure and profitability. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. At 34x, MEDP’s P/E is lower than its industry peers (39.1x). This implies that investors are undervaluing each dollar of MEDP’s earnings. Therefore, according to this analysis, MEDP is an under-priced stock.
Assumptions to be aware of
However, before you rush out to buy MEDP, 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 MEDP, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with MEDP, 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 MEDP to are fairly valued by the market. If this does not hold true, MEDP’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
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.
