Why Investors Shouldn't Be Surprised By Meritage Homes Corporation's (NYSE:MTH) Low P/E

Meritage Homes Corporation's (NYSE:MTH) price-to-earnings (or "P/E") ratio of 8.8x might make it look like a strong buy right now compared to the market in the United States, where around half of the companies have P/E ratios above 18x and even P/E's above 33x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Meritage Homes has been doing quite well of late. It might be that many expect the strong earnings performance to degrade substantially, possibly more than the market, which has repressed the P/E. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

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How Is Meritage Homes' Growth Trending?

In order to justify its P/E ratio, Meritage Homes would need to produce anemic growth that's substantially trailing the market.

Taking a look back first, we see that there was hardly any earnings per share growth to speak of for the company over the past year. Still, the latest three year period has seen an excellent 55% overall rise in EPS, in spite of its uninspiring short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Shifting to the future, estimates from the eight analysts covering the company suggest earnings growth is heading into negative territory, declining 1.8% per year over the next three years. That's not great when the rest of the market is expected to grow by 10% per year.

In light of this, it's understandable that Meritage Homes' P/E would sit below the majority of other companies. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Bottom Line On Meritage Homes' P/E

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Meritage Homes maintains its low P/E on the weakness of its forecast for sliding earnings, 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. It's hard to see the share price rising strongly in the near future under these circumstances.

You need to take note of risks, for example - Meritage Homes has 3 warning signs (and 1 which doesn't sit too well with us) we think you should know about.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.

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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.