Investor Optimism Abounds Aristocrat Leisure Limited (ASX:ALL) But Growth Is Lacking

With a price-to-earnings (or "P/E") ratio of 23.7x Aristocrat Leisure Limited (ASX:ALL) may be sending bearish signals at the moment, given that almost half of all companies in Australia have P/E ratios under 19x and even P/E's lower than 11x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's as high as it is.

Recent times have been advantageous for Aristocrat Leisure as its earnings have been rising faster than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Aristocrat Leisure

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Aristocrat Leisure.

What Are Growth Metrics Telling Us About The High P/E?

There's an inherent assumption that a company should outperform the market for P/E ratios like Aristocrat Leisure's to be considered reasonable.

Retrospectively, the last year delivered an exceptional 42% gain to the company's bottom line. The strong recent performance means it was also able to grow EPS by 266% in total over the last three years. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 7.6% per year during the coming three years according to the analysts following the company. That's shaping up to be materially lower than the 19% each year growth forecast for the broader market.

In light of this, it's alarming that Aristocrat Leisure's P/E sits above the majority of other companies. 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. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Key Takeaway

We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

We've established that Aristocrat Leisure currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You always need to take note of risks, for example - Aristocrat Leisure has 1 warning sign we think you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.