Energy Recovery, Inc.'s (NASDAQ:ERII) 25% Cheaper Price Remains In Tune With Earnings

Energy Recovery, Inc. (NASDAQ:ERII) shareholders that were waiting for something to happen have been dealt a blow with a 25% share price drop in the last month. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 19% in that time.

Although its price has dipped substantially, Energy Recovery's price-to-earnings (or "P/E") ratio of 28.9x might still make it look like a strong sell right now compared to the market in the United States, where around half of the companies have P/E ratios below 17x and even P/E's below 10x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

We've found 21 US stocks that are forecast to pay a dividend yield of over 6% next year. See the full list for free.

With earnings growth that's superior to most other companies of late, Energy Recovery has been doing relatively well. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Energy Recovery

Keen to find out how analysts think Energy Recovery's future stacks up against the industry? In that case, our free report is a great place to start.

How Is Energy Recovery's Growth Trending?

The only time you'd be truly comfortable seeing a P/E as steep as Energy Recovery's is when the company's growth is on track to outshine the market decidedly.

Retrospectively, the last year delivered a decent 9.7% gain to the company's bottom line. The latest three year period has also seen an excellent 46% overall rise in EPS, aided somewhat by its short-term performance. So we can start by confirming that the company has done a great job of growing earnings over that time.

Turning to the outlook, the next three years should generate growth of 30% each year as estimated by the three analysts watching the company. That's shaping up to be materially higher than the 10% per annum growth forecast for the broader market.

With this information, we can see why Energy Recovery is trading at such a high P/E compared to the market. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

What We Can Learn From Energy Recovery's P/E?

A significant share price dive has done very little to deflate Energy Recovery's very lofty P/E. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

As we suspected, our examination of Energy Recovery's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

And what about other risks? Every company has them, and we've spotted 1 warning sign for Energy Recovery you should know about.

Of course, you might also be able to find a better stock than Energy Recovery. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.