Navios Maritime Midstream Partners LP (NYSE:NAP) is trading with a trailing P/E of 10.6x, which is lower than the industry average of 14.2x. While NAP 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 Navios Maritime Midstream Partners
Breaking down 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 dollar of the company’s earnings.
P/E Calculation for NAP
Price-Earnings Ratio = Price per share ÷ Earnings per share
NAP Price-Earnings Ratio = $7.93 ÷ $0.748 = 10.6x
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. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to NAP, such as company lifetime and products sold. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. NAP’s P/E of 10.6x is lower than its industry peers (14.2x), which implies that each dollar of NAP’s earnings is being undervalued by investors. Therefore, according to this analysis, NAP is an under-priced stock.
Assumptions to be aware of
Before you jump to the conclusion that NAP 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 NAP, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with NAP, 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 NAP to are fairly valued by the market. If this does not hold, there is a possibility that NAP’s P/E is lower because our peer group is overvalued by the market.
What this means for you:
Are you a shareholder? Since you may have already conducted your due diligence on NAP, 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.
Are you a potential investor? If you are considering investing in NAP, basing your decision on the PE metric at one point in time is certainly not sufficient. I recommend you do additional analysis by looking at its intrinsic valuation and using other relative valuation ratios like PEG or EV/EBITDA.
PE is one aspect of your portfolio construction to consider when holding or entering into a stock. But it is certainly not the only factor. Take a look at our most recent infographic report on Navios Maritime Midstream Partners for a more in-depth analysis of the stock to help you make a well-informed investment decision. Since we know a limitation of PE is it doesn’t properly account for growth, you can use our free platform to see my list of stocks with a high growth potential and see if their PE is still reasonable.
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.