Risks To Shareholder Returns Are Elevated At These Prices For Rolls-Royce Holdings plc (LON:RR.)

Rolls-Royce Holdings plc's (LON:RR.) price-to-earnings (or "P/E") ratio of 21.2x might make it look like a sell right now compared to the market in the United Kingdom, where around half of the companies have P/E ratios below 16x and even P/E's below 9x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times have been advantageous for Rolls-Royce Holdings as its earnings have been rising faster than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.

Check out our latest analysis for Rolls-Royce Holdings

Keen to find out how analysts think Rolls-Royce Holdings' future stacks up against the industry? In that case, our free report is a great place to start.

Is There Enough Growth For Rolls-Royce Holdings?

Rolls-Royce Holdings' P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 41% last year. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 4.0% per year as estimated by the analysts watching the company. With the market predicted to deliver 14% growth each year, that's a disappointing outcome.

With this information, we find it concerning that Rolls-Royce Holdings is trading at a P/E higher than 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 very 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.

What We Can Learn From Rolls-Royce Holdings' P/E?

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

Our examination of Rolls-Royce Holdings' analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a poor outlook with earnings heading backwards, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Plus, you should also learn about these 3 warning signs we've spotted with Rolls-Royce Holdings (including 2 which make us uncomfortable).

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.