Novartis AG's (VTX:NOVN) Price In Tune With Earnings

With a price-to-earnings (or "P/E") ratio of 24.1x Novartis AG (VTX:NOVN) may be sending bearish signals at the moment, given that almost half of all companies in Switzerland have P/E ratios under 20x and even P/E's lower than 13x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

Novartis 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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Does Growth Match The High P/E?

In order to justify its P/E ratio, Novartis would need to produce impressive growth in excess of the market.

If we review the last year of earnings growth, the company posted a terrific increase of 49%. As a result, it also grew EPS by 18% in total over the last three years. Accordingly, shareholders would have probably been satisfied with the medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 17% per year as estimated by the analysts watching the company. With the market only predicted to deliver 9.9% per year, the company is positioned for a stronger earnings result.

With this information, we can see why Novartis is trading at such a high P/E compared to the market. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Bottom Line On Novartis' 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.

We've established that Novartis maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Novartis that you should be aware of.

Of course, you might also be able to find a better stock than Novartis. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.