This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll look at Eland Oil & Gas PLC’s (LON:ELA) P/E ratio and reflect on what it tells us about the company’s share price. Eland Oil & Gas has a price to earnings ratio of 16.7, based on the last twelve months. That is equivalent to an earnings yield of about 6.0%.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for Eland Oil & Gas:
P/E of 16.7 = $1.65 (Note: this is the share price in the reporting currency, namely, USD ) ÷ $0.099 (Based on the year to June 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each £1 the company has earned over the last year. 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.
How Growth Rates Impact P/E Ratios
When earnings fall, the ‘E’ decreases, over time. That means even if the current P/E is low, it will increase over time if the share price stays flat. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
Eland Oil & Gas increased earnings per share by a whopping 33% last year. And it has bolstered its earnings per share by 23% per year over the last five years. I’d therefore be a little surprised if its P/E ratio was not relatively high. Unfortunately, earnings per share are down 19% a year, over 3 years.
How Does Eland Oil & Gas’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. You can see in the image below that the average P/E (11.5) for companies in the oil and gas industry is lower than Eland Oil & Gas’s P/E.
That means that the market expects Eland Oil & Gas will outperform other companies in its industry. Clearly the market expects growth, but it isn’t guaranteed. So further research is always essential. I often monitor director buying and selling.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
Don’t forget that the P/E ratio considers market capitalization. That means it doesn’t take debt or cash into account. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.
Is Debt Impacting Eland Oil & Gas’s P/E?
Since Eland Oil & Gas holds net cash of US$4.4m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Verdict On Eland Oil & Gas’s P/E Ratio
Eland Oil & Gas’s P/E is 16.7 which is about average (15.8) in the GB market. The balance sheet is healthy, and recent EPS growth impressive, but the P/E implies some caution from the market. Because analysts are predicting more growth in the future, one might have expected to see a higher P/E ratio. You can take a closer look at the fundamentals, here.
When the market is wrong about a stock, it gives savvy investors an opportunity. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
But note: Eland Oil & Gas 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).
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 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.