What Treatt plc's (LON:TET) P/E Is Not Telling You

It's not a stretch to say that Treatt plc's (LON:TET) price-to-earnings (or "P/E") ratio of 14.6x 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.

Treatt certainly has been doing a good job lately as it's been growing earnings more 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.

Check out our latest analysis for Treatt

Keen to find out how analysts think Treatt'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?

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

If we review the last year of earnings growth, the company posted a terrific increase of 31%. However, this wasn't enough as the latest three year period has seen a very unpleasant 5.9% drop in EPS in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 10% each year as estimated by the six analysts watching the company. That's shaping up to be materially lower than the 16% per year growth forecast for the broader market.

In light of this, it's curious that Treatt's P/E sits in line with the majority of other companies. 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.

What We Can Learn From Treatt'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.

Our examination of Treatt's 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.

Many other vital risk factors can be found on the company's balance sheet. Our free balance sheet analysis for Treatt with six simple checks will allow you to discover any risks that could be an issue.

Of course, you might also be able to find a better stock than Treatt. 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.