Subdued Growth No Barrier To Pearson plc's (LON:PSON) Price

With a median price-to-earnings (or "P/E") ratio of close to 17x in the United Kingdom, you could be forgiven for feeling indifferent about Pearson plc's (LON:PSON) P/E ratio of 18.5x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

Recent times have been advantageous for Pearson as its earnings have been rising faster than most other companies. It might be that many expect the strong earnings performance to wane, which has kept the P/E from rising. If not, then existing shareholders have reason to be feeling optimistic about the future direction of the share price.

See our latest analysis for Pearson

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

What Are Growth Metrics Telling Us About The P/E?

The only time you'd be comfortable seeing a P/E like Pearson's is when the company's growth is tracking the market closely.

If we review the last year of earnings growth, the company posted a terrific increase of 62%. Pleasingly, EPS has also lifted 30% in aggregate from three years ago, thanks to the last 12 months of growth. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Shifting to the future, estimates from the nine analysts covering the company suggest earnings should grow by 11% each year over the next three years. Meanwhile, the rest of the market is forecast to expand by 15% per year, which is noticeably more attractive.

With this information, we find it interesting that Pearson is trading at a fairly similar P/E to the market. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. Maintaining these prices will be difficult to achieve as this level of earnings growth is likely to weigh down the shares eventually.

The Key Takeaway

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.

Our examination of Pearson's analyst forecasts revealed that its inferior earnings outlook isn't impacting its P/E as much as we would have predicted. Right now we are uncomfortable with the P/E as the predicted future earnings aren't likely to support a more positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Pearson that 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com