The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll look at TGS-NOPEC Geophysical Company ASA's (OB:TGS) P/E ratio and reflect on what it tells us about the company's share price. What is TGS-NOPEC Geophysical's P/E ratio? Well, based on the last twelve months it is 15.5. In other words, at today's prices, investors are paying NOK15.5 for every NOK1 in prior year profit.
How Do I Calculate TGS-NOPEC Geophysical's Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share (in the reporting currency) ÷ Earnings per Share (EPS)
Or for TGS-NOPEC Geophysical:
P/E of 15.5 = $27.12 (Note: this is the share price in the reporting currency, namely, USD ) ÷ $1.75 (Based on the trailing twelve months to December 2018.)
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.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
In the last year, TGS-NOPEC Geophysical grew EPS like Taylor Swift grew her fan base back in 2010; the 136% gain was both fast and well deserved. Unfortunately, earnings per share are down 7.8% a year, over 5 years.
Does TGS-NOPEC Geophysical Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio essentially measures market expectations of a company. We can see in the image below that the average P/E (21.5) for companies in the energy services industry is higher than TGS-NOPEC Geophysical's P/E.
TGS-NOPEC Geophysical's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Many investors like to buy stocks when the market is pessimistic about their prospects. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
TGS-NOPEC Geophysical's Balance Sheet
Since TGS-NOPEC Geophysical holds net cash of US$271m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Verdict On TGS-NOPEC Geophysical's P/E Ratio
TGS-NOPEC Geophysical has a P/E of 15.5. That's higher than the average in the NO market, which is 13.5. Its net cash position is the cherry on top of its superb EPS growth. So based on this analysis we'd expect TGS-NOPEC Geophysical to have a high P/E ratio.
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.
Of course you might be able to find a better stock than TGS-NOPEC Geophysical. So you may wish to see this free collection of other companies that have grown earnings strongly.
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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.