Eagers Automotive Limited (ASX:APE) Stock Rockets 26% As Investors Are Less Pessimistic Than Expected

Eagers Automotive Limited (ASX:APE) shares have continued their recent momentum with a 26% gain in the last month alone. Taking a wider view, although not as strong as the last month, the full year gain of 15% is also fairly reasonable.

After such a large jump in price, Eagers Automotive may be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 20.1x, since almost half of all companies in Australia have P/E ratios under 17x and even P/E's lower than 10x 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.

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While the market has experienced earnings growth lately, Eagers Automotive's earnings have gone into reverse gear, which is not great. One possibility is that the P/E is high because investors think this poor earnings performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Eagers Automotive

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

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

Retrospectively, the last year delivered a frustrating 28% decrease to the company's bottom line. As a result, earnings from three years ago have also fallen 38% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

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 similar to the 16% per year growth forecast for the broader market.

In light of this, it's curious that Eagers Automotive's P/E sits above the majority of other companies. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

The Key Takeaway

Eagers Automotive shares have received a push in the right direction, but its P/E is elevated too. 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.

We've established that Eagers Automotive currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. Right now we are uncomfortable with the relatively high share price as the predicted future earnings aren't likely to support such positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Before you settle on your opinion, we've discovered 4 warning signs for Eagers Automotive (1 is concerning!) that 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.