Costco Wholesale Corporation's (NASDAQ:COST) Popularity With Investors Is Under Threat From Overpricing

With a price-to-earnings (or "P/E") ratio of 59.1x Costco Wholesale Corporation (NASDAQ:COST) may be sending very bearish signals at the moment, given that almost half of all companies in the United States have P/E ratios under 17x and even P/E's lower than 10x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

AI is about to change healthcare. These 20 stocks are working on everything from early diagnostics to drug discovery. The best part - they are all under $10bn in marketcap - there is still time to get in early.

Recent times have been advantageous for Costco Wholesale as its earnings have been rising faster than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.

See our latest analysis for Costco Wholesale

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

Does Growth Match The High P/E?

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

If we review the last year of earnings growth, the company posted a worthy increase of 12%. Pleasingly, EPS has also lifted 38% in aggregate from three years ago, partly thanks to the last 12 months of growth. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 10% per annum over the next three years. That's shaping up to be similar to the 10% per year growth forecast for the broader market.

With this information, we find it interesting that Costco Wholesale is trading at a high P/E compared to the market. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

The Bottom Line On Costco Wholesale's 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 Costco Wholesale's analyst forecasts revealed that its market-matching earnings outlook isn't impacting its high P/E as much as we would have predicted. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Don't forget that there may be other risks. For instance, we've identified 1 warning sign for Costco Wholesale that you should be aware of.

Of course, you might also be able to find a better stock than Costco Wholesale. 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.