Earnings Working Against DS Smith Plc's (LON:SMDS) Share Price

With a price-to-earnings (or "P/E") ratio of 11.8x DS Smith Plc (LON:SMDS) 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. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's limited.

With its earnings growth in positive territory compared to the declining earnings of most other companies, DS Smith has been doing quite well of late. One possibility is that the P/E is low because investors think the company's earnings are going to fall away like everyone else's soon. 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 DS Smith

If you'd like to see what analysts are forecasting going forward, you should check out our free report on DS Smith.

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

The only time you'd be truly comfortable seeing a P/E as low as DS Smith's is when the company's growth is on track to lag the market.

Retrospectively, the last year delivered an exceptional 23% gain to the company's bottom line. The latest three year period has also seen an excellent 131% overall rise in EPS, aided by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Shifting to the future, estimates from the five analysts covering the company suggest earnings growth is heading into negative territory, declining 5.2% per annum over the next three years. That's not great when the rest of the market is expected to grow by 13% per annum.

In light of this, it's understandable that DS Smith's P/E would sit below the majority of other companies. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Bottom Line On DS Smith's P/E

Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

We've established that DS Smith maintains its low P/E on the weakness of its forecast for sliding earnings, as expected. 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.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for DS Smith (1 can't be ignored) you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and 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.