Is Walmart Inc’s (NYSE:WMT) PE Ratio A Signal To Sell For Investors?
Walmart Inc (NYSE:WMT) trades with a trailing P/E of 26.7x, which is higher than the industry average of 21.3x. Although some investors may jump to the conclusion that you should avoid the stock or sell if you own it, understanding the assumptions behind the P/E ratio might change your mind. In this article, I will deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. See our latest analysis for Walmart
Breaking down the Price-Earnings 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 WMT
Price-Earnings Ratio = Price per share ÷ Earnings per share
WMT Price-Earnings Ratio = $87.95 ÷ $3.293 = 26.7x
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 WMT, such as size and country of operation. A quick method of creating a peer group is to use companies in the same industry, which is what I will do. Since WMT’s P/E of 26.7x is higher than its industry peers (21.3x), it means that investors are paying more than they should for each dollar of WMT’s earnings. As such, our analysis shows that WMT represents an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your WMT shares, it is important to note that this conclusion is based on two key assumptions. The first is that our “similar companies” are actually similar to WMT, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with WMT, 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 WMT to are fairly valued by the market. If this does not hold, there is a possibility that WMT’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.
