Yahoo Finance A Rising Share Price Has Us Looking Closely At Worley Limited's (ASX:WOR) P/E Ratio
Those holding Worley (ASX:WOR) shares must be pleased that the share price has rebounded 35% in the last thirty days. But unfortunately, the stock is still down by 58% over a quarter. But that will do little to salve the savage burn caused by the 56% share price decline, over the last year.
All else being equal, a sharp share price increase should make a stock less attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. The implication here is that deep value investors might steer clear when expectations of a company are too high. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
View our latest analysis for Worley
Does Worley Have A Relatively High Or Low P/E For Its Industry?
Worley's P/E of 18.03 indicates some degree of optimism towards the stock. You can see in the image below that the average P/E (10.4) for companies in the energy services industry is lower than Worley's P/E.
Its relatively high P/E ratio indicates that Worley shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So investors should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means even if the current P/E is high, it will reduce over time if the share price stays flat. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Worley's earnings per share fell by 21% in the last twelve months. And over the longer term (5 years) earnings per share have decreased 18% annually. This could justify a pessimistic P/E.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
Don't forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. 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.
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.
Worley's Balance Sheet
Worley has net debt equal to 48% of its market cap. While that's enough to warrant consideration, it doesn't really concern us.
The Verdict On Worley's P/E Ratio
Worley has a P/E of 18.0. That's higher than the average in its market, which is 14.1. With a bit of debt, but a lack of recent growth, it's safe to say the market is expecting improved profit performance from the company, in the next few years. What is very clear is that the market has become more optimistic about Worley over the last month, with the P/E ratio rising from 13.4 back then to 18.0 today. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.
Investors should be looking to buy stocks that the market is wrong about. 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 visual report on analyst forecasts could hold the key to an excellent investment decision.
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 modest (or no) debt, trading on a P/E below 20.
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.
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