This analysis is intended to introduce important early concepts to people who are starting to invest and want to begin learning the link between Hennessy Advisors Inc (NASDAQ:HNNA)’s fundamentals and stock market performance.
Hennessy Advisors Inc (NASDAQ:HNNA) is currently trading at a trailing P/E of 6.8x, which is lower than the industry average of 16.1x. While HNNA 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 Hennessy Advisors
What you need to know about the P/E ratio
A common ratio used for relative valuation is the P/E ratio. 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 dollar of the company’s earnings.
P/E Calculation for HNNA
Price-Earnings Ratio = Price per share ÷ Earnings per share
HNNA Price-Earnings Ratio = $17.71 ÷ $2.588 = 6.8x
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 HNNA, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. At 6.8x, HNNA’s P/E is lower than its industry peers (16.1x). This implies that investors are undervaluing each dollar of HNNA’s earnings. Therefore, according to this analysis, HNNA is an under-priced stock.
Assumptions to be aware of
Before you jump to the conclusion that HNNA is the perfect buying opportunity, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to HNNA, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with HNNA, 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 HNNA to are fairly valued by the market. If this is violated, HNNA’s P/E may be lower than its peers as they are actually overvalued by investors.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current undervaluation could signal a good buying opportunity to increase your exposure to HNNA. 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:
- Financial Health: Is HNNA’s operations financially sustainable? Balance sheets can be hard to analyze, which is why we’ve done it for you. Check out our financial health checks here.
- Past Track Record: Has HNNA 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 HNNA’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.