I am writing today to help inform people who are new to the stock market and want to better understand how you can grow your money by investing in Kanoria Chemicals & Industries Limited (NSE:KANORICHEM).
Kanoria Chemicals & Industries Limited (NSE:KANORICHEM) trades with a trailing P/E of 20.1x, which is higher than the industry average of 18.2x. While KANORICHEM 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 deconstruct the P/E ratio and highlight what you need to be careful of when using the P/E ratio. Check out our latest analysis for Kanoria Chemicals & Industries
Demystifying the P/E ratio
The P/E ratio is a popular ratio used in relative valuation since earnings power is a key 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.
Price-Earnings Ratio = Price per share ÷ Earnings per share
P/E Calculation for KANORICHEM
Price per share = ₹64.7
Earnings per share = ₹3.22
∴ Price-Earnings Ratio = ₹64.7 ÷ ₹3.22 = 20.1x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Ideally, we want to compare the stock’s P/E ratio to the average of companies that have similar characteristics as KANORICHEM, 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 similar companies should technically have similar P/E ratios, we can very quickly come to some conclusions about the stock if the ratios differ.
KANORICHEM’s P/E of 20.1x is higher than its industry peers (18.2x), which implies that each dollar of KANORICHEM’s earnings is being overvalued by investors. This multiple is a median of profitable companies of 25 Chemicals companies in IN including Anil, Sysco Industries and Mysore Petro Chemicals. Therefore, according to this analysis, KANORICHEM is an over-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to sell your KANORICHEM shares immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to KANORICHEM. If the companies aren’t similar, the difference in P/E might be a result of other factors. For example, if you are inadvertently comparing riskier firms with KANORICHEM, then KANORICHEM’s P/E would naturally be higher than its peers since investors would reward its lower risk with a higher price. The other possibility is if you were accidentally comparing lower growth firms with KANORICHEM. In this case, KANORICHEM’s P/E would be higher since investors would also reward KANORICHEM’s higher growth with a higher price. The second assumption that must hold true is that the stocks we are comparing KANORICHEM to are fairly valued by the market. If this does not hold, there is a possibility that KANORICHEM’s P/E is higher because firms in our peer group are being undervalued by the market.
What this means for you:
You may have already conducted fundamental analysis on the stock as a shareholder, so its current overvaluation could signal a potential selling opportunity to reduce your exposure to KANORICHEM. Now that you understand the ins and outs of the PE metric, you should know to bear in mind its limitations before you make an investment decision. 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:
- Financial Health: Is KANORICHEM’s operations financially sustainable? Balance sheets can be hard to analyze, which is why we’ve done it for you. Check out our financial health checks here.
- Past Track Record: Has KANORICHEM 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 KANORICHEM’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.
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