Investors Don't See Light At End Of Tesco PLC's (LON:TSCO) Tunnel

With a price-to-earnings (or "P/E") ratio of 14x Tesco PLC (LON:TSCO) may be sending bullish signals at the moment, given that almost half of all companies in the United Kingdom have P/E ratios greater than 17x and even P/E's higher than 29x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

Recent times have been advantageous for Tesco as its earnings have been rising faster than most other companies. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

Check out our latest analysis for Tesco

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

Does Growth Match The Low P/E?

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

Retrospectively, the last year delivered an exceptional 178% gain to the company's bottom line. The strong recent performance means it was also able to grow EPS by 273% in total over the last three years. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 5.3% per annum during the coming three years according to the analysts following the company. That's shaping up to be materially lower than the 15% each year growth forecast for the broader market.

With this information, we can see why Tesco is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.

The Final Word

While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

As we suspected, our examination of Tesco's analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.

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

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.

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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.