Yahoo Finance Is It Time To Sell Severn Trent Plc (LON:SVT) Based Off Its PE Ratio?
Severn Trent Plc (LSE:SVT) is trading with a trailing P/E of 19.5x, which is higher than the industry average of 15.5x. 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. Today, I will explain what the P/E ratio is as well as what you should look out for when using it. Check out our latest analysis for Severn Trent
What you need to know about 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 pound of the company’s earnings.
P/E Calculation for SVT
Price-Earnings Ratio = Price per share ÷ Earnings per share
SVT Price-Earnings Ratio = £19.89 ÷ £1.022 = 19.5x
The P/E ratio isn’t a metric you view in isolation and only becomes useful when you compare it against other similar companies. We preferably want to compare the stock’s P/E ratio to the average of companies that have similar features to SVT, such as capital structure and profitability. A common peer group is companies that exist in the same industry, which is what I use. SVT’s P/E of 19.5x is higher than its industry peers (15.5x), which implies that each dollar of SVT’s earnings is being overvalued by investors. As such, our analysis shows that SVT represents an over-priced stock.
Assumptions to watch out for
Before you jump to the conclusion that SVT 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 SVT, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with SVT, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing SVT to are fairly valued by the market. If this does not hold, there is a possibility that SVT’s P/E is lower because our peer group is overvalued 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 SVT. 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:
Future Outlook: What are well-informed industry analysts predicting for SVT’s future growth? Take a look at our free research report of analyst consensus for SVT’s outlook.
Past Track Record: Has SVT 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 SVT’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.
