Improved Earnings Required Before Cars.com Inc. (NYSE:CARS) Shares Find Their Feet

When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") above 17x, you may consider Cars.com Inc. (NYSE:CARS) as an attractive investment with its 12.1x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's limited.

Recent times have been pleasing for Cars.com as its earnings have risen in spite of the market's earnings going into reverse. One possibility is that the P/E is low because investors think the company's earnings are going to fall away like everyone else's soon. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

Check out our latest analysis for Cars.com

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

Is There Any Growth For Cars.com?

There's an inherent assumption that a company should underperform the market for P/E ratios like Cars.com's to be considered reasonable.

Retrospectively, the last year delivered an exceptional 348% gain to the company's bottom line. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 6.9% per annum as estimated by the seven analysts watching the company. That's not great when the rest of the market is expected to grow by 10.0% per year.

In light of this, it's understandable that Cars.com's P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Key Takeaway

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 Cars.com's analyst forecasts revealed that its outlook for shrinking earnings is contributing to its low P/E. 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.

Before you take the next step, you should know about the 3 warning signs for Cars.com (1 can't be ignored!) that we have uncovered.

Of course, you might also be able to find a better stock than Cars.com. 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.

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