There's No Escaping 1&1 AG's (ETR:1U1) Muted Earnings

When close to half the companies in Germany have price-to-earnings ratios (or "P/E's") above 16x, you may consider 1&1 AG (ETR:1U1) as an attractive investment with its 7.8x P/E ratio. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

While the market has experienced earnings growth lately, 1&1's earnings have gone into reverse gear, which is not great. 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.

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Is There Any Growth For 1&1?

There's an inherent assumption that a company should underperform the market for P/E ratios like 1&1's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 22% decrease to the company's bottom line. That put a dampener on the good run it was having over the longer-term as its three-year EPS growth is still a noteworthy 12% in total. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been mostly respectable for the company.

Looking ahead now, EPS is anticipated to climb by 2.7% per year during the coming three years according to the analysts following the company. Meanwhile, the rest of the market is forecast to expand by 15% per year, which is noticeably more attractive.

With this information, we can see why 1&1 is trading at a P/E lower than the market. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.

The Final Word

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.

We've established that 1&1 maintains its low P/E on the weakness of its forecast growth being lower than the wider market, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

You always need to take note of risks, for example - 1&1 has 1 warning sign we think you should be aware of.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.