Novo Nordisk A/S' (CPH:NOVO B) Price Is Out Of Tune With Earnings

Novo Nordisk A/S' (CPH:NOVO B) price-to-earnings (or "P/E") ratio of 24.7x might make it look like a strong sell right now compared to the market in Denmark, where around half of the companies have P/E ratios below 16x and even P/E's below 8x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Novo Nordisk has been doing quite well of late. It seems that many are expecting the company to continue defying the broader market adversity, which has increased investors’ willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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Does Growth Match The High P/E?

Novo Nordisk's P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

Taking a look back first, we see that the company managed to grow earnings per share by a handy 12% last year. The latest three year period has also seen a 14% overall rise in EPS, aided somewhat by its short-term performance. So we can start by confirming that the company has actually done a good job of growing earnings over that time.

Looking ahead now, EPS is anticipated to climb by 11% per year during the coming three years according to the analysts following the company. With the market predicted to deliver 19% growth per annum, the company is positioned for a weaker earnings result.

With this information, we find it concerning that Novo Nordisk is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Bottom Line On Novo Nordisk's P/E

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

Our examination of Novo Nordisk's analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

And what about other risks? Every company has them, and we've spotted 1 warning sign for Novo Nordisk you should know about.

If you're unsure about the strength of Novo Nordisk's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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