Unfortunately for some shareholders, the Contura Energy (NYSE:CTRA) share price has dived 58% in the last thirty days. Given the 87% drop over the last year, some shareholders might be worried that they have become bagholders. For those wondering, a bagholder is someone who keeps holding a losing stock indefinitely, without taking the time to consider its prospects carefully, going forward.
All else being equal, a share price drop should make a stock more attractive to potential investors. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that long term investors have an opportunity when expectations of a company are too low. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
How Does Contura Energy's P/E Ratio Compare To Its Peers?
Contura Energy's P/E of 0.73 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (10.0) for companies in the oil and gas industry is higher than Contura Energy's P/E.
This suggests that market participants think Contura Energy will underperform other companies in its industry. Since the market seems unimpressed with Contura Energy, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. 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.
Contura Energy shrunk earnings per share by 51% over the last year.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The 'Price' in P/E reflects the market capitalization of the company. That means it doesn't take debt or cash into account. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
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 Contura Energy's Balance Sheet Tell Us?
Contura Energy has net debt worth a very significant 206% of its market capitalization. This level of debt justifies a relatively low P/E, so remain cognizant of the debt, if you're comparing it to other stocks.
The Verdict On Contura Energy's P/E Ratio
Contura Energy trades on a P/E ratio of 0.7, which is below the US market average of 18.1. When you consider that the company has significant debt, and didn't grow EPS last year, it isn't surprising that the market has muted expectations. What can be absolutely certain is that the market has become more pessimistic about Contura Energy over the last month, with the P/E ratio falling from 1.7 back then to 0.7 today. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for deep value investors this stock might justify some research.
Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than Contura Energy. 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 firstname.lastname@example.org. 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.