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Coffee Holding Co Inc. (NASDAQ:JVA) is currently trading at a trailing P/E of 46.6x, which is higher than the industry average of 18.9x. While this makes JVA 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 break down what the P/E ratio is, how to interpret it and what to watch out for. Check out our latest analysis for Coffee Holding
Breaking down the P/E ratio
P/E is a popular ratio used for relative valuation. 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 JVA
Price-Earnings Ratio = Price per share ÷ Earnings per share
JVA Price-Earnings Ratio = $4.18 ÷ $0.09 = 46.6x
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 preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to JVA, such as capital structure and profitability. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. JVA’s P/E of 46.6x is higher than its industry peers (18.9x), which implies that each dollar of JVA’s earnings is being overvalued by investors. Therefore, according to this analysis, JVA is an over-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to sell your JVA shares immediately, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to JVA. If this isn’t the case, the difference in P/E could be due to other factors. For example, if you compared lower risk firms with JVA, 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 JVA to are fairly valued by the market. If this does not hold, there is a possibility that JVA’s P/E is lower because our peer group is 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 JVA. 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:
Future Outlook: What are well-informed industry analysts predicting for JVA’s future growth? Take a look at our free research report of analyst consensus for JVA’s outlook.
Past Track Record: Has JVA 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 JVA’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.