I am writing today to help inform people who are new to the stock market and want to start learning about core concepts of fundamental analysis on practical examples from today’s market.
Wabash National Corporation (NYSE:WNC) trades with a trailing P/E of 7x, which is lower than the industry average of 21.1x. While WNC 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.
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. 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 WNC
Price-Earnings Ratio = Price per share ÷ Earnings per share
WNC Price-Earnings Ratio = $14.61 ÷ $2.085 = 7x
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 WNC, 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. At 7, WNC’s P/E is lower than its industry peers (21.1). This implies that investors are undervaluing each dollar of WNC’s earnings. This multiple is a median of profitable companies of 24 Machinery companies in US including Eco Energy Tech Asia, EnPro Industries and Hebron Technology. One could put it like this: the market is pricing WNC as if it is a weaker company than the average company in its industry.
Assumptions to watch out for
However, there are two important assumptions you should be aware of. Firstly, our peer group contains companies that are similar to WNC. 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 WNC, 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 WNC to are fairly valued by the market. If this does not hold, there is a possibility that WNC’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 add more of WNC to your portfolio. 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 urge you to complete your research by taking a look at the following:
- Future Outlook: What are well-informed industry analysts predicting for WNC’s future growth? Take a look at our free research report of analyst consensus for WNC’s outlook.
- Past Track Record: Has WNC 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 WNC’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 email@example.com.