Nortel Inversora SA (NYSE:NTL) is trading with a trailing P/E of 26.2x, which is higher than the industry average of 19.4x. While NTL 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. Today, I will break down what the P/E ratio is, how to interpret it and what to watch out for. View our latest analysis for Nortel Inversora S.A
Demystifying 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 NTL
Price-Earnings Ratio = Price per share ÷ Earnings per share
NTL Price-Earnings Ratio = ARS759.64 ÷ ARS29.018 = 26.2x
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. We want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as NTL, such as size and country of operation. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. NTL’s P/E of 26.2x is higher than its industry peers (19.4x), which implies that each dollar of NTL’s earnings is being overvalued by investors. As such, our analysis shows that NTL represents an over-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that NTL 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 NTL, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with NTL, 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 NTL to are fairly valued by the market. If this does not hold true, NTL’s lower P/E ratio may be because firms in our peer group are overvalued by the market.
What this means for you:
Are you a shareholder? Since you may have already conducted your due diligence on NTL, 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.
Are you a potential investor? If NTL has been on your watch list for a while, it is best you also consider its intrinsic valuation. Looking at PE on its own will not give you the full picture of the stock as an investment, so I suggest you should also look at other relative valuation metrics like EV/EBITDA or PEG.
PE is one aspect of your portfolio construction to consider when holding or entering into a stock. But it is certainly not the only factor. Take a look at our most recent infographic report on Nortel Inversora S.A for a more in-depth analysis of the stock to help you make a well-informed investment decision. Since we know a limitation of PE is it doesn’t properly account for growth, you can use our free platform to see my list of stocks with a high growth potential and see if their PE is still reasonable.
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.