The Price Is Right For Contact Energy Limited (NZSE:CEN)

With a price-to-earnings (or "P/E") ratio of 49x Contact Energy Limited (NZSE:CEN) may be sending very bearish signals at the moment, given that almost half of all companies in New Zealand have P/E ratios under 15x and even P/E's lower than 10x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

Recent times haven't been advantageous for Contact Energy as its earnings have been falling quicker than most other companies. It might be that many expect the dismal earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be very nervous about the viability of the share price.

Check out our latest analysis for Contact Energy

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Contact Energy.

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as steep as Contact Energy's is when the company's growth is on track to outshine the market decidedly.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 31%. This means it has also seen a slide in earnings over the longer-term as EPS is down 7.4% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 30% per annum during the coming three years according to the five analysts following the company. That's shaping up to be materially higher than the 21% per annum growth forecast for the broader market.

In light of this, it's understandable that Contact Energy's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Final Word

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Contact Energy maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

There are also other vital risk factors to consider and we've discovered 2 warning signs for Contact Energy (1 shouldn't be ignored!) that you should be aware of before investing here.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.