Unpleasant Surprises Could Be In Store For Applied Industrial Technologies, Inc.'s (NYSE:AIT) Shares

Applied Industrial Technologies, Inc.'s (NYSE:AIT) price-to-earnings (or "P/E") ratio of 23.9x might make it look like a sell right now compared to the market in the United States, where around half of the companies have P/E ratios below 18x and even P/E's below 11x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times have been advantageous for Applied Industrial Technologies as its earnings have been rising faster than most other companies. 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.

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Does Growth Match The High P/E?

There's an inherent assumption that a company should outperform the market for P/E ratios like Applied Industrial Technologies' to be considered reasonable.

If we review the last year of earnings growth, the company posted a worthy increase of 5.7%. The latest three year period has also seen an excellent 137% overall rise in EPS, aided somewhat by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 4.8% per annum during the coming three years according to the eight analysts following the company. Meanwhile, the rest of the market is forecast to expand by 11% per annum, which is noticeably more attractive.

In light of this, it's alarming that Applied Industrial Technologies' P/E sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Bottom Line On Applied Industrial Technologies' P/E

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Applied Industrial Technologies currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

It is also worth noting that we have found 1 warning sign for Applied Industrial Technologies that you need to take into consideration.

Of course, you might also be able to find a better stock than Applied Industrial Technologies. 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.