What Advanced Drainage Systems, Inc.'s (NYSE:WMS) P/E Is Not Telling You

There wouldn't be many who think Advanced Drainage Systems, Inc.'s (NYSE:WMS) price-to-earnings (or "P/E") ratio of 20.6x is worth a mention when the median P/E in the United States is similar at about 19x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

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Advanced Drainage Systems hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. It might be that many expect the dour earnings performance to strengthen positively, which has kept the P/E from falling. If not, then existing shareholders may be a little nervous about the viability of the share price.

See our latest analysis for Advanced Drainage Systems

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Advanced Drainage Systems.

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 Advanced Drainage Systems' to be considered reasonable.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 11%. However, a few very strong years before that means that it was still able to grow EPS by an impressive 80% in total over the last three years. 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.

Looking ahead now, EPS is anticipated to slump, contracting by 3.7% during the coming year according to the eight analysts following the company. Meanwhile, the broader market is forecast to expand by 13%, which paints a poor picture.

With this information, we find it concerning that Advanced Drainage Systems is trading at a fairly similar P/E to the market. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh on the share price eventually.

What We Can Learn From Advanced Drainage Systems' 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.

Our examination of Advanced Drainage Systems' analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its P/E as much as we would have predicted. Right now we are uncomfortable with the P/E as the predicted future earnings are unlikely to support a more positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Advanced Drainage Systems, and understanding these should be part of your investment process.

You might be able to find a better investment than Advanced Drainage Systems. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.