Should You Be Tempted To Sell Ethan Allen Interiors Inc (NYSE:ETH) Because Of Its P/E Ratio?
This analysis is intended to introduce important early concepts to people who are starting to invest and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
Ethan Allen Interiors Inc (NYSE:ETH) is currently trading at a trailing P/E of 15.1, which is higher than the industry average of 11.6. Although some investors may see this as unappealing, it is important to understand the assumptions behind the P/E ratio before making judgments. Today, I will break down what the P/E ratio is, how to interpret it and what to watch out for.
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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 ETH
Price-Earnings Ratio = Price per share ÷ Earnings per share
ETH Price-Earnings Ratio = $20.08 ÷ $1.331 = 15.1x
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 ETH, such as company lifetime and products sold. A common peer group is companies that exist in the same industry, which is what I use. At 15.1, ETH’s P/E is higher than its industry peers (11.6). This implies that investors are overvaluing each dollar of ETH’s earnings. This multiple is a median of profitable companies of 25 Consumer Durables companies in US including Live Ventures, Newell Brands and Nova LifeStyle. You could also say that the market is suggesting that ETH is a stronger business than the average comparable company.
Assumptions to be aware of
However, you should be aware that this analysis makes certain assumptions. Firstly, that our peer group contains companies that are similar to ETH. If this isn’t the case, the difference in P/E could be due to other factors. For example, if Ethan Allen Interiors Inc is growing faster than its peers, then it would deserve a higher P/E ratio. Of course, it is possible that the stocks we are comparing with ETH are not fairly valued. So while we can reasonably surmise that it is optimistically valued relative to a peer group, it might be fairly valued, if the peer group is undervalued.
What this means for you:
Since you may have already conducted your due diligence on ETH, the overvaluation of the stock may mean it is a good time to reduce 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. 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:
Future Outlook: What are well-informed industry analysts predicting for ETH’s future growth? Take a look at our free research report of analyst consensus for ETH’s outlook.
Past Track Record: Has ETH 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 ETH’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 past 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. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
