Companhia de Saneamento Básico do Estado de São Paulo - SABESP's (BVMF:SBSP3) Price Is Out Of Tune With Earnings

There wouldn't be many who think Companhia de Saneamento Básico do Estado de São Paulo - SABESP's (BVMF:SBSP3) price-to-earnings (or "P/E") ratio of 7.4x is worth a mention when the median P/E in Brazil is similar at about 8x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

Recent times have been advantageous for Companhia de Saneamento Básico do Estado de São Paulo - SABESP as its earnings have been rising faster than most other companies. One possibility is that the P/E is moderate because investors think this strong earnings performance might be about to tail off. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's not quite in favour.

View our latest analysis for Companhia de Saneamento Básico do Estado de São Paulo - SABESP

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Does Growth Match The P/E?

There's an inherent assumption that a company should be matching the market for P/E ratios like Companhia de Saneamento Básico do Estado de São Paulo - SABESP's to be considered reasonable.

Taking a look back first, we see that the company grew earnings per share by an impressive 213% last year. The strong recent performance means it was also able to grow EPS by 263% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Looking ahead now, EPS is anticipated to slump, contracting by 38% during the coming year according to the eleven analysts following the company. That's not great when the rest of the market is expected to grow by 13%.

With this information, we find it concerning that Companhia de Saneamento Básico do Estado de São Paulo - SABESP is trading at a fairly similar P/E to the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the negative growth outlook.

The Bottom Line On Companhia de Saneamento Básico do Estado de São Paulo - SABESP's P/E

Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

Our examination of Companhia de Saneamento Básico do Estado de São Paulo - SABESP's analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its P/E as much as we would have predicted. When we see a poor outlook with earnings heading backwards, we suspect share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Companhia de Saneamento Básico do Estado de São Paulo - SABESP (1 is a bit concerning) you should be aware of.

If these risks are making you reconsider your opinion on Companhia de Saneamento Básico do Estado de São Paulo - SABESP, 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.