Investors Appear Satisfied With Allegro MicroSystems, Inc.'s (NASDAQ:ALGM) Prospects

Allegro MicroSystems, Inc.'s (NASDAQ:ALGM) price-to-earnings (or "P/E") ratio of 34.4x 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 14x and even P/E's below 8x are quite common. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

Allegro MicroSystems certainly has been doing a good job lately as it's been growing earnings more 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.

Check out our latest analysis for Allegro MicroSystems

Want the full picture on analyst estimates for the company? Then our free report on Allegro MicroSystems will help you uncover what's on the horizon.

What Are Growth Metrics Telling Us About The High P/E?

Allegro MicroSystems' P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

If we review the last year of earnings growth, the company posted a terrific increase of 187%. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 93% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next year should generate growth of 37% as estimated by the seven analysts watching the company. Meanwhile, the rest of the market is forecast to only expand by 10%, which is noticeably less attractive.

In light of this, it's understandable that Allegro MicroSystems' P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

What We Can Learn From Allegro MicroSystems' 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.

As we suspected, our examination of Allegro MicroSystems' analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. 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.

And what about other risks? Every company has them, and we've spotted 2 warning signs for Allegro MicroSystems you should know about.

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 P/E ratio below 20x).

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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.