Johnson Matthey Plc's (LON:JMAT) price-to-earnings (or "P/E") ratio of 17.5x 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 15x and even P/E's below 8x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.
Johnson Matthey has been struggling lately as its earnings have declined faster than most other companies. It might be that many expect the dismal earnings performance to recover substantially, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
See our latest analysis for Johnson Matthey
Is There Enough Growth For Johnson Matthey?
There's an inherent assumption that a company should outperform the market for P/E ratios like Johnson Matthey's to be considered reasonable.
Retrospectively, the last year delivered a frustrating 38% decrease to the company's bottom line. Still, the latest three year period has seen an excellent 81% overall rise in EPS, in spite of its unsatisfying short-term performance. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.
Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 27% per year over the next three years. 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 Johnson Matthey is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
The Key Takeaway
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.
As we suspected, our examination of Johnson Matthey's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.
Having said that, be aware Johnson Matthey is showing 4 warning signs in our investment analysis, you should know about.
Of course, you might also be able to find a better stock than Johnson Matthey. 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.
About LSE:JMAT
Johnson Matthey
Engages in the clean air, catalyst and hydrogen technology, and platinum group metals (PGM) service businesses in the United Kingdom, Germany, rest of Europe, the United States, rest of North America, China, rest of Asia, and internationally.
Very undervalued with solid track record.
