Optimistic Investors Push Williams-Sonoma, Inc. (NYSE:WSM) Shares Up 25% But Growth Is Lacking

Williams-Sonoma, Inc. (NYSE:WSM) shares have continued their recent momentum with a 25% gain in the last month alone. The annual gain comes to 139% following the latest surge, making investors sit up and take notice.

Since its price has surged higher, Williams-Sonoma's price-to-earnings (or "P/E") ratio of 19.2x might make it look like a sell right now compared to the market in the United States, where around half of the companies have P/E ratios below 16x and even P/E's below 9x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

With earnings that are retreating more than the market's of late, Williams-Sonoma has been very sluggish. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. If not, then existing shareholders may be very nervous about the viability of the share price.

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How Is Williams-Sonoma's Growth Trending?

The only time you'd be truly comfortable seeing a P/E as high as Williams-Sonoma's is when the company's growth is on track to outshine the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 11%. Still, the latest three year period has seen an excellent 68% overall rise in EPS, in spite of its unsatisfying short-term performance. Accordingly, while they would have preferred to keep the run going, shareholders would probably welcome the medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 4.1% per annum as estimated by the analysts watching the company. With the market predicted to deliver 10% growth per annum, the company is positioned for a weaker earnings result.

In light of this, it's alarming that Williams-Sonoma's P/E sits above the majority of other companies. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Final Word

Williams-Sonoma's P/E is getting right up there since its shares have risen strongly. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Our examination of Williams-Sonoma's analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Williams-Sonoma with six simple checks.

You might be able to find a better investment than Williams-Sonoma. 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.