The Price Is Right For Analog Devices, Inc. (NASDAQ:ADI)

Analog Devices, Inc.'s (NASDAQ:ADI) price-to-earnings (or "P/E") ratio of 52.7x might make it look like a strong sell right now compared to the market in the United States, where around half of the companies have P/E ratios below 17x and even P/E's below 10x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

Analog Devices has been struggling lately as its earnings have declined faster than most other companies. 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Analog Devices

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Does Growth Match The High P/E?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 40%. Unfortunately, that's brought it right back to where it started three years ago with EPS growth being virtually non-existent overall during that time. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 23% each year over the next three years. That's shaping up to be materially higher than the 10% each year growth forecast for the broader market.

With this information, we can see why Analog Devices is trading at such a high P/E compared to the market. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

What We Can Learn From Analog Devices' 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 Analog Devices maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

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

If you're unsure about the strength of Analog Devices' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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