Is RELM Wireless Corporation’s (NYSEMKT:RWC) PE Ratio A Signal To Sell For Investors?
RELM Wireless Corporation (AMEX:RWC) is trading with a trailing P/E of 67.1x, which is higher than the industry average of 24.1x. While this makes RWC appear like a stock to avoid or sell if you own it, you might change your mind after I explain the assumptions behind the P/E ratio. Today, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. View our latest analysis for RELM Wireless
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 RWC
Price-Earnings Ratio = Price per share ÷ Earnings per share
RWC Price-Earnings Ratio = $3.65 ÷ $0.054 = 67.1x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to RWC, 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. Since RWC’s P/E of 67.1x is higher than its industry peers (24.1x), it means that investors are paying more than they should for each dollar of RWC’s earnings. Therefore, according to this analysis, RWC is an over-priced stock.
Assumptions to be aware of
Before you jump to the conclusion that RWC should be banished from your portfolio, it is important to realise that our conclusion rests on two assertions. The first is that our “similar companies” are actually similar to RWC, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with RWC, 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 RWC to are fairly valued by the market. If this does not hold true, RWC’s lower P/E ratio may be because firms in our peer group are overpriced 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.
