Fonar Corporation (NASDAQ:FONR) is currently trading at a trailing P/E of 8.3x, which is lower than the industry average of 34.6x. While FONR 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. 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 Fonar
What you need to know about 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 FONR
Price-Earnings Ratio = Price per share ÷ Earnings per share
FONR Price-Earnings Ratio = $24.4 ÷ $2.938 = 8.3x
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 FONR, such as company lifetime and products sold. A common peer group is companies that exist in the same industry, which is what I use. Since FONR’s P/E of 8.3x is lower than its industry peers (34.6x), it means that investors are paying less than they should for each dollar of FONR’s earnings. Therefore, according to this analysis, FONR is an under-priced stock.
Assumptions to be aware of
Before you jump to the conclusion that FONR is the perfect buying opportunity, it is important to realise that our conclusion rests on two assertions. Firstly, our peer group contains companies that are similar to FONR. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared higher growth firms with FONR, 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 FONR to are fairly valued by the market. If this does not hold, there is a possibility that FONR’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.