Kip McGrath Education Centres Limited's (ASX:KME) Earnings Are Not Doing Enough For Some Investors

Kip McGrath Education Centres Limited's (ASX:KME) price-to-earnings (or "P/E") ratio of 17.5x might make it look like a buy right now compared to the market in Australia, where around half of the companies have P/E ratios above 20x and even P/E's above 38x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's limited.

For example, consider that Kip McGrath Education Centres' financial performance has been poor lately as its earnings have been in decline. It might be that many expect the disappointing earnings performance to continue or accelerate, which has repressed the P/E. However, if this doesn't eventuate then existing shareholders may be feeling optimistic about the future direction of the share price.

Check out our latest analysis for Kip McGrath Education Centres

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Kip McGrath Education Centres will help you shine a light on its historical performance.

How Is Kip McGrath Education Centres' Growth Trending?

There's an inherent assumption that a company should underperform the market for P/E ratios like Kip McGrath Education Centres' to be considered reasonable.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 32%. This means it has also seen a slide in earnings over the longer-term as EPS is down 30% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 26% shows it's an unpleasant look.

With this information, we are not surprised that Kip McGrath Education Centres is trading at a P/E lower than the market. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as recent earnings trends are already weighing down the shares.

The Final Word

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

As we suspected, our examination of Kip McGrath Education Centres revealed its shrinking earnings over the medium-term are contributing to its low P/E, given the market is set to grow. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. If recent medium-term earnings trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

Having said that, be aware Kip McGrath Education Centres is showing 3 warning signs in our investment analysis, and 1 of those doesn't sit too well with us.

If you're unsure about the strength of Kip McGrath Education Centres' 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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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.