With a price-to-earnings (or "P/E") ratio of 9.7x Webjet Limited (ASX:WEB) may be sending bullish signals at the moment, given that almost half of all companies in Australia have P/E ratios greater than 16x and even P/E's higher than 30x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.
Webjet could be doing better as its earnings have been going backwards lately while most other companies have been seeing positive earnings growth. The P/E is probably low because investors think this poor earnings performance isn't going to get any better. If this is the case, then existing shareholders will probably struggle to get excited about the future direction of the share price.
How Does Webjet's P/E Ratio Compare To Its Industry Peers?
We'd like to see if P/E's within Webjet's industry might provide some colour around the company's low P/E ratio. The image below shows that the Online Retail industry as a whole has a P/E ratio significantly higher than the market. So unfortunately this doesn't provide much to explain the company's ratio at all right now. In the context of the Online Retail industry's current setting, most of its constituents' P/E's would be expected to be raised up greatly. Still, the strength of the company's earnings will most likely determine where its P/E shall sit.If you'd like to see what analysts are forecasting going forward, you should check out our free report on Webjet.
Does Growth Match The Low P/E?
The only time you'd be truly comfortable seeing a P/E as low as Webjet's is when the company's growth is on track to lag the market.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 19%. This means it has also seen a slide in earnings over the longer-term as EPS is down 37% in total over the last three years. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.
Looking ahead now, EPS is anticipated to slump, contracting by 33% per annum during the coming three years according to the eight analysts following the company. That's not great when the rest of the market is expected to grow by 11% each year.
In light of this, it's understandable that Webjet's P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.
The Bottom Line On Webjet's P/E
While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.
We've established that Webjet maintains its low P/E on the weakness of its forecast for sliding earnings, as expected. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. It's hard to see the share price rising strongly in the near future under these circumstances.
It's always necessary to consider the ever-present spectre of investment risk. We've identified 4 warning signs with Webjet (at least 1 which makes us a bit uncomfortable), and understanding them should be part of your investment process.
If you're unsure about the strength of Webjet's 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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