Saudi Arabian Oil Company's (TADAWUL:2222) Shares Lagging The Market But So Is The Business

When close to half the companies in Saudi Arabia have price-to-earnings ratios (or "P/E's") above 28x, you may consider Saudi Arabian Oil Company (TADAWUL:2222) as an attractive investment with its 16x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

Saudi Arabian Oil hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. The P/E is probably low because investors think this poor earnings performance isn't going to get any better. If this is the case, then existing shareholders will probably struggle to get excited about the future direction of the share price.

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How Is Saudi Arabian Oil's Growth Trending?

There's an inherent assumption that a company should underperform the market for P/E ratios like Saudi Arabian Oil's to be considered reasonable.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 24%. Even so, admirably EPS has lifted 145% in aggregate from three years ago, notwithstanding the last 12 months. 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.

Turning to the outlook, the next three years should generate growth of 0.5% per year as estimated by the analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 16% each year, which is noticeably more attractive.

In light of this, it's understandable that Saudi Arabian Oil's P/E sits below the majority of other companies. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.

The Bottom Line On Saudi Arabian Oil's P/E

Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Saudi Arabian Oil maintains its low P/E on the weakness of its forecast growth being lower than the wider market, 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. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Saudi Arabian Oil, and understanding them should be part of your investment process.

If you're unsure about the strength of Saudi Arabian Oil's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.