Don’t Sell TORC Oil & Gas Ltd. (TSE:TOG) Before You Read This

Today, we’ll introduce the concept of the P/E ratio for those who are learning about investing. We’ll look at TORC Oil & Gas Ltd.’s (TSE:TOG) P/E ratio and reflect on what it tells us about the company’s share price. Based on the last twelve months, TORC Oil & Gas’s P/E ratio is 44.32. That corresponds to an earnings yield of approximately 2.3%.

Check out our latest analysis for TORC Oil & Gas

How Do You Calculate A P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for TORC Oil & Gas:

P/E of 44.32 = CA$3.31 ÷ CA$0.075 (Based on the year to June 2019.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That isn’t necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.

Does TORC Oil & Gas Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that TORC Oil & Gas has a significantly higher P/E than the average (7.7) P/E for companies in the oil and gas industry.

TSX:TOG Price Estimation Relative to Market, August 15th 2019
TSX:TOG Price Estimation Relative to Market, August 15th 2019

Its relatively high P/E ratio indicates that TORC Oil & Gas shareholders think it will perform better than other companies in its industry classification.

How Growth Rates Impact P/E Ratios

Probably the most important factor in determining what P/E a company trades on is the earnings growth. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. That means even if the current P/E is high, it will reduce over time if the share price stays flat. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.

TORC Oil & Gas’s earnings made like a rocket, taking off 419% last year. Unfortunately, earnings per share are down 2.7% a year, over 5 years.

Remember: P/E Ratios Don’t Consider The Balance Sheet

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. That means it doesn’t take debt or cash into account. 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.

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).

So What Does TORC Oil & Gas’s Balance Sheet Tell Us?

Net debt is 41% of TORC Oil & Gas’s market cap. You’d want to be aware of this fact, but it doesn’t bother us.

The Bottom Line On TORC Oil & Gas’s P/E Ratio

TORC Oil & Gas’s P/E is 44.3 which is way above average (13.8) in its market. While the company does use modest debt, its recent earnings growth is superb. So to be frank we are not surprised it has a high P/E ratio.

Investors should be looking to buy stocks that the market is wrong about. People often underestimate remarkable growth — so investors can make money when fast growth is not fully appreciated. So this free report on the analyst consensus forecasts could help you make a master move on this stock.

Of course you might be able to find a better stock than TORC Oil & Gas. So you may wish to see this free collection of other companies that have grown earnings strongly.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.