Why We're Not Concerned About Domino's Pizza Enterprises Limited's (ASX:DMP) Share Price

With a price-to-earnings (or "P/E") ratio of 77x Domino's Pizza Enterprises Limited (ASX:DMP) may be sending very bearish signals at the moment, given that almost half of all companies in Australia have P/E ratios under 18x and even P/E's lower than 9x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

Domino's Pizza Enterprises has been struggling lately as its earnings have declined faster than most other companies. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Domino's Pizza Enterprises

Keen to find out how analysts think Domino's Pizza Enterprises' future stacks up against the industry? In that case, our free report is a great place to start.

Does Growth Match The High P/E?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 61%. The last three years don't look nice either as the company has shrunk EPS by 54% in aggregate. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next three years should generate growth of 49% per year as estimated by the analysts watching the company. That's shaping up to be materially higher than the 17% each year growth forecast for the broader market.

In light of this, it's understandable that Domino's Pizza Enterprises' P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Final Word

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.

As we suspected, our examination of Domino's Pizza Enterprises' analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

And what about other risks? Every company has them, and we've spotted 3 warning signs for Domino's Pizza Enterprises you should know about.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on 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.