Does ScS Group plc’s (LON:SCS) PE Ratio Warrant A Buy?
ScS Group plc (LSE:SCS) trades with a trailing P/E of 7x, which is lower than the industry average of 12.8x. While SCS 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 deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. Check out our latest analysis for ScS Group
Demystifying the P/E 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 SCS
Price-Earnings Ratio = Price per share ÷ Earnings per share
SCS Price-Earnings Ratio = £2.05 ÷ £0.292 = 7x
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 SCS, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. SCS’s P/E of 7x is lower than its industry peers (12.8x), which implies that each dollar of SCS’s earnings is being undervalued by investors. Therefore, according to this analysis, SCS is an under-priced stock.
Assumptions to be aware of
However, before you rush out to buy SCS, it is important to note that this conclusion is based on two key assumptions. Firstly, our peer group contains companies that are similar to SCS. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared lower risk firms with SCS, 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 SCS to are fairly valued by the market. If this does not hold, there is a possibility that SCS’s P/E is lower because our peer group is 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.
