Cochlear Limited's (ASX:COH) Shareholders Might Be Looking For Exit

When close to half the companies in Australia have price-to-earnings ratios (or "P/E's") below 19x, you may consider Cochlear Limited (ASX:COH) as a stock to avoid entirely with its 52.2x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

Cochlear certainly has been doing a good job lately as it's been growing earnings more than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.

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Is There Enough Growth For Cochlear?

The only time you'd be truly comfortable seeing a P/E as steep as Cochlear's is when the company's growth is on track to outshine the market decidedly.

If we review the last year of earnings growth, the company posted a terrific increase of 19%. EPS has also lifted 11% in aggregate from three years ago, mostly thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been respectable for the company.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 14% per annum over the next three years. That's shaping up to be materially lower than the 19% per annum growth forecast for the broader market.

In light of this, it's alarming that Cochlear's P/E sits above the majority of other companies. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. 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.

What We Can Learn From Cochlear's P/E?

Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Our examination of Cochlear'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. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

A lot of potential risks can sit within a company's balance sheet. Our free balance sheet analysis for Cochlear with six simple checks will allow you to discover any risks that could be an issue.

If these risks are making you reconsider your opinion on Cochlear, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.