Risks To Shareholder Returns Are Elevated At These Prices For Associated British Foods plc (LON:ABF)

It's not a stretch to say that Associated British Foods plc's (LON:ABF) price-to-earnings (or "P/E") ratio of 15.4x right now seems quite "middle-of-the-road" compared to the market in the United Kingdom, where the median P/E ratio is around 16x. Although, it's not wise to simply ignore the P/E without explanation as investors may be disregarding a distinct opportunity or a costly mistake.

Recent times have been advantageous for Associated British Foods as its earnings have been rising faster than most other companies. One possibility is that the P/E is moderate because investors think this strong earnings performance might be about to tail off. If not, then existing shareholders have reason to be feeling optimistic about the future direction of the share price.

Check out our latest analysis for Associated British Foods

Want the full picture on analyst estimates for the company? Then our free report on Associated British Foods will help you uncover what's on the horizon.

Does Growth Match The P/E?

In order to justify its P/E ratio, Associated British Foods would need to produce growth that's similar to the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 62% last year. The strong recent performance means it was also able to grow EPS by 215% in total over the last three years. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 12% each year as estimated by the analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 15% each year, which is noticeably more attractive.

With this information, we find it interesting that Associated British Foods is trading at a fairly similar P/E to the market. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Final Word

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 Associated British Foods' analyst forecasts revealed that its inferior earnings outlook isn't impacting its P/E as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the moderate P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

Before you take the next step, you should know about the 1 warning sign for Associated British Foods that we have uncovered.

Of course, you might also be able to find a better stock than Associated British Foods. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.