To the annoyance of some shareholders, NuVista Energy (TSE:NVA) shares are down a considerable 39% in the last month. And that drop will have no doubt have some shareholders concerned that the 77% share price decline, over the last year, has turned them into bagholders. What is a bagholder? It is a shareholder who has suffered a bad loss, but continues to hold indefinitely, without questioning their reasons for holding, even as the losses grow greater.
All else being equal, a share price drop should make a stock more attractive to potential investors. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that long term investors have an opportunity when expectations of a company are too low. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
Does NuVista Energy Have A Relatively High Or Low P/E For Its Industry?
NuVista Energy’s P/E of 4.54 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (7.7) for companies in the oil and gas industry is higher than NuVista Energy’s P/E.
This suggests that market participants think NuVista Energy will underperform other companies in its industry.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company’s P/E multiple. Earnings growth means that in the future the ‘E’ will be higher. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Most would be impressed by NuVista Energy earnings growth of 10% in the last year.
Remember: P/E Ratios Don’t Consider The Balance Sheet
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. So it won’t reflect the advantage of cash, or disadvantage of debt. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.
While growth expenditure doesn’t always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
So What Does NuVista Energy’s Balance Sheet Tell Us?
NuVista Energy has net debt worth a very significant 142% of its market capitalization. This level of debt justifies a relatively low P/E, so remain cognizant of the debt, if you’re comparing it to other stocks.
The Verdict On NuVista Energy’s P/E Ratio
NuVista Energy trades on a P/E ratio of 4.5, which is below the CA market average of 13.8. The company has a meaningful amount of debt on the balance sheet, but that should not eclipse the solid earnings growth. If it continues to grow, then the current low P/E may prove to be unjustified. Given NuVista Energy’s P/E ratio has declined from 7.4 to 4.5 in the last month, we know for sure that the market is more worried about the business today, than it was back then. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for deep value investors this stock might justify some research.
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
You might be able to find a better buy than NuVista Energy. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.