Does Premier Oil plc’s (LON:PMO) PE Ratio Signal A Selling Opportunity?
Premier Oil plc (LSE:PMO) is trading with a trailing P/E of 116.8x, which is higher than the industry average of 14.5x. Although some investors may jump to the conclusion that you should avoid the stock or sell if you own it, understanding the assumptions behind the P/E ratio might change your mind. In this article, I will explain what the P/E ratio is as well as what you should look out for when using it. View our latest analysis for Premier Oil
Breaking down the P/E ratio
A common ratio used for relative valuation is the P/E ratio. By comparing a stock’s price per share to its earnings per share, we are able to see how much investors are paying for each pound of the company’s earnings.
P/E Calculation for PMO
Price-Earnings Ratio = Price per share ÷ Earnings per share
PMO Price-Earnings Ratio = $1.33 ÷ $0.011 = 116.8x
The P/E ratio itself doesn’t tell you a lot; however, it becomes very insightful when you compare it with other similar companies. Our goal is to compare the stock’s P/E ratio to the average of companies that have similar attributes to PMO, such as company lifetime and products sold. One way of gathering a peer group is to use firms in the same industry, which is what I’ll do. Since PMO’s P/E of 116.8x is higher than its industry peers (14.5x), it means that investors are paying more than they should for each dollar of PMO’s earnings. Therefore, according to this analysis, PMO is an over-priced stock.
Assumptions to watch out for
While our conclusion might prompt you to sell your PMO shares immediately, there are two important assumptions you should be aware of. The first is that our “similar companies” are actually similar to PMO, or else the difference in P/E might be a result of other factors. For example, if you compared lower risk firms with PMO, then investors would naturally value it at a lower price since it is a riskier investment. The second assumption that must hold true is that the stocks we are comparing PMO to are fairly valued by the market. If this is violated, PMO’s P/E may be lower than its peers as they are actually overvalued by investors.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.
