With a price-to-earnings (or "P/E") ratio of 47.8x Universal Music Group N.V. (AMS:UMG) may be sending very bearish signals at the moment, given that almost half of all companies in the Netherlands have P/E ratios under 17x and even P/E's lower than 10x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.
Universal Music Group hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. One possibility is that the P/E is high because investors think this poor earnings performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
View our latest analysis for Universal Music Group
How Is Universal Music Group's Growth Trending?
In order to justify its P/E ratio, Universal Music Group would need to produce outstanding growth well in excess of the market.
Retrospectively, the last year delivered a frustrating 35% decrease to the company's bottom line. As a result, earnings from three years ago have also fallen 1.2% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 25% per annum over the next three years. That's shaping up to be materially higher than the 12% per year growth forecast for the broader market.
In light of this, it's understandable that Universal Music Group's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
What We Can Learn From Universal Music Group'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 Universal Music Group maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless these conditions change, they will continue to provide strong support to the share price.
Having said that, be aware Universal Music Group is showing 2 warning signs in our investment analysis, you should know about.
Of course, you might also be able to find a better stock than Universal Music Group. So you may wish to see this free collection of other companies that sit on P/E's below 20x 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 ENXTAM:UMG
Outstanding track record and slightly overvalued.
