Should You Be Tempted To Sell Cipla Limited (NSE:CIPLA) At Its Current PE Ratio?
Cipla Limited (NSEI:CIPLA) is trading with a trailing P/E of 43.5x, which is higher than the industry average of 29.5x. While CIPLA might seem like a stock to avoid or sell if you own it, it is important to understand the assumptions behind the P/E ratio before you make any investment decisions. In this article, 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 Cipla
What you need to know about the P/E ratio
P/E is a popular ratio used for 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 CIPLA
Price-Earnings Ratio = Price per share ÷ Earnings per share
CIPLA Price-Earnings Ratio = ₹618.3 ÷ ₹14.222 = 43.5x
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 CIPLA, such as size and country of operation. A common peer group is companies that exist in the same industry, which is what I use. Since CIPLA’s P/E of 43.5x is higher than its industry peers (29.5x), it means that investors are paying more than they should for each dollar of CIPLA’s earnings. Therefore, according to this analysis, CIPLA is an over-priced stock.
A few caveats
Before you jump to the conclusion that CIPLA 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 CIPLA, or else the difference in P/E might be a result of other factors. For example, if you compared higher growth firms with CIPLA, then its P/E would naturally be lower since investors would reward its peers’ higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing CIPLA to are fairly valued by the market. If this does not hold, there is a possibility that CIPLA’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.
