Lithia Motors, Inc.'s (NYSE:LAD) Prospects Need A Boost To Lift Shares

When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") above 17x, you may consider Lithia Motors, Inc. (NYSE:LAD) as a highly attractive investment with its 7.8x P/E ratio. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

Lithia Motors has been struggling lately as its earnings have declined faster than most other companies. The P/E is probably low because investors think this poor earnings performance isn't going to improve at all. If you still like the company, you'd want its earnings trajectory to turn around before making any decisions. If not, then existing shareholders will probably struggle to get excited about the future direction of the share price.

View our latest analysis for Lithia Motors

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How Is Lithia Motors' Growth Trending?

The only time you'd be truly comfortable seeing a P/E as depressed as Lithia Motors' is when the company's growth is on track to lag the market decidedly.

Retrospectively, the last year delivered a frustrating 18% decrease to the company's bottom line. Still, the latest three year period has seen an excellent 84% overall rise in EPS, in spite of its unsatisfying short-term performance. 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.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 7.9% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 10% each year, which is noticeably more attractive.

In light of this, it's understandable that Lithia Motors' P/E sits below the majority of other companies. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.

What We Can Learn From Lithia Motors' P/E?

While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

We've established that Lithia Motors maintains its low P/E on the weakness of its forecast growth being lower than the wider market, as expected. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

Before you take the next step, you should know about the 1 warning sign for Lithia Motors that we have uncovered.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and 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.