Applied Materials, Inc.'s (NASDAQ:AMAT) 28% Price Boost Is Out Of Tune With Earnings

Despite an already strong run, Applied Materials, Inc. (NASDAQ:AMAT) shares have been powering on, with a gain of 28% in the last thirty days. Looking back a bit further, it's encouraging to see the stock is up 77% in the last year.

Following the firm bounce in price, given close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 16x, you may consider Applied Materials as a stock to avoid entirely with its 24.4x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Applied Materials has been doing quite well of late. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for Applied Materials

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Applied Materials.

Is There Enough Growth For Applied Materials?

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

If we review the last year of earnings growth, the company posted a worthy increase of 14%. This was backed up an excellent period prior to see EPS up by 105% in total over the last three years. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 7.0% per year during the coming three years according to the analysts following the company. With the market predicted to deliver 11% growth per annum, the company is positioned for a weaker earnings result.

In light of this, it's alarming that Applied Materials' P/E sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Key Takeaway

Applied Materials' P/E is flying high just like its stock has during the last month. 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 Applied Materials' 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.

Before you settle on your opinion, we've discovered 1 warning sign for Applied Materials that you should be aware of.

Of course, you might also be able to find a better stock than Applied Materials. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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

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.