Cross Timbers Royalty Trust (NYSE:CRT) trades with a trailing P/E of 14x, which is higher than the industry average of 13.1x. 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. Today, 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 Cross Timbers Royalty Trust
What you need to know about the P/E ratio
The P/E ratio is one of many ratios used in relative valuation. It compares a stock’s price per share to the stock’s earnings per share. A more intuitive way of understanding the P/E ratio is to think of it as how much investors are paying for each dollar of the company’s earnings.
P/E Calculation for CRT
Price-Earnings Ratio = Price per share ÷ Earnings per share
CRT Price-Earnings Ratio = $14.84 ÷ $1.057 = 14x
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 CRT, 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. At 14x, CRT’s P/E is higher than its industry peers (13.1x). This implies that investors are overvaluing each dollar of CRT’s earnings. As such, our analysis shows that CRT represents an over-priced stock.
Assumptions to be aware of
However, before you rush out to sell your CRT shares, it is important to note that this conclusion is based on two key assumptions. The first is that our “similar companies” are actually similar to CRT, or else the difference in P/E might be a result of other factors. For example, if you are comparing lower risk firms with CRT, then its P/E would naturally be lower than its peers, as investors would value those with lower risk at a higher price. The second assumption that must hold true is that the stocks we are comparing CRT to are fairly valued by the market. If this does not hold, there is a possibility that CRT’s P/E is lower because our peer group is overvalued by the market.
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.