Is Routemaster Capital Inc (CVE:RM) A Sell At Its Current PE Ratio?
Routemaster Capital Inc (TSXV:RM) is currently trading at a trailing P/E of 18.4x, which is higher than the industry average of 9.4x. While this makes RM 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 explain what the P/E ratio is as well as what you should look out for when using it. See our latest analysis for Routemaster Capital
Breaking down the P/E ratio
The P/E ratio is a popular ratio used in relative valuation since earnings power is a key 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 RM
Price-Earnings Ratio = Price per share ÷ Earnings per share
RM Price-Earnings Ratio = CA$0.24 ÷ CA$0.013 = 18.4x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as RM, such as size and country of operation. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. RM’s P/E of 18.4x is higher than its industry peers (9.4x), which implies that each dollar of RM’s earnings is being overvalued by investors. As such, our analysis shows that RM represents an over-priced stock.
Assumptions to be aware of
While our conclusion might prompt you to sell your RM shares immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to RM, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with RM, 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 RM to are fairly valued by the market. If this does not hold true, RM’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
If your personal research into the stock confirms what the P/E ratio is telling you, it might be a good time to rebalance your portfolio and reduce your holdings in RM. But keep in mind that the usefulness of relative valuation depends on whether you are comfortable with making the assumptions I mentioned above. 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 highly recommend you to complete your research by taking a look at the following:
Financial Health: Is RM’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 RM 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 RM’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.
