This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll show how you can use Peyto Exploration & Development Corp’s (TSE:PEY) P/E ratio to inform your assessment of the investment opportunity. Peyto Exploration & Development has a P/E ratio of 9.64, based on the last twelve months. In other words, at today’s prices, investors are paying CA$9.64 for every CA$1 in prior year profit.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Peyto Exploration & Development:
P/E of 9.64 = CA$9.31 ÷ CA$0.97 (Based on the trailing twelve months to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each CA$1 of company earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. Earnings growth means that in the future the ‘E’ will be higher. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.
Peyto Exploration & Development shrunk earnings per share by 2.7% last year. But EPS is up 7.2% over the last 3 years. And over the longer term (5 years) earnings per share have decreased 6.6% annually. So it would be surprising to see a high P/E.
How Does Peyto Exploration & Development’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Peyto Exploration & Development has a lower P/E than the average (14.1) P/E for companies in the oil and gas industry.
Peyto Exploration & Development’s P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with Peyto Exploration & Development, it’s quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
The ‘Price’ in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
Is Debt Impacting Peyto Exploration & Development’s P/E?
Net debt totals 76% of Peyto Exploration & Development’s market cap. This is enough debt that you’d have to make some adjustments before using the P/E ratio to compare it to a company with net cash.
The Verdict On Peyto Exploration & Development’s P/E Ratio
Peyto Exploration & Development has a P/E of 9.6. That’s below the average in the CA market, which is 13.5. The P/E reflects market pessimism that probably arises from the lack of recent EPS growth, paired with significant leverage.
Investors have an opportunity when market expectations about a stock are wrong. As value investor Benjamin Graham famously said, ‘In the short run, the market is a voting machine but in the long run, it is a weighing machine.’ So this free report on the analyst consensus forecasts could help you make a master move on this stock.
But note: Peyto Exploration & Development may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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 firstname.lastname@example.org.