With a price-to-earnings (or "P/E") ratio of 23.5x Howden Joinery Group Plc (LON:HWDN) may be sending bearish signals at the moment, given that almost half of all companies in the United Kingdom have P/E ratios under 16x and even P/E's lower than 9x 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.
With earnings that are retreating more than the market's of late, Howden Joinery Group has been very sluggish. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.free report on Howden Joinery Group.
Does Growth Match The High P/E?
The only time you'd be truly comfortable seeing a P/E as high as Howden Joinery Group's is when the company's growth is on track to outshine the market.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 30%. The last three years don't look nice either as the company has shrunk EPS by 20% in aggregate. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
Turning to the outlook, the next three years should generate growth of 15% each year as estimated by the twelve analysts watching the company. That's shaping up to be materially higher than the 12% per year growth forecast for the broader market.
With this information, we can see why Howden Joinery Group 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 Final Word
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.
As we suspected, our examination of Howden Joinery Group's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.
The company's balance sheet is another key area for risk analysis. Our free balance sheet analysis for Howden Joinery Group with six simple checks will allow you to discover any risks that could be an issue.
You might be able to find a better investment than Howden Joinery Group. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a P/E below 20x (but have proven they can grow earnings).
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