Dolby Laboratories, Inc.'s (NYSE:DLB) Share Price Could Signal Some Risk

Dolby Laboratories, Inc.'s (NYSE:DLB) price-to-earnings (or "P/E") ratio of 29.6x 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. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

With earnings growth that's superior to most other companies of late, Dolby Laboratories has been doing relatively well. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.

Check out our latest analysis for Dolby Laboratories

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

There's an inherent assumption that a company should far outperform the market for P/E ratios like Dolby Laboratories' to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 39%. As a result, it also grew EPS by 8.3% in total over the last three years. So we can start by confirming that the company has actually done a good job of growing earnings over that time.

Turning to the outlook, the next year should bring diminished returns, with earnings decreasing 8.3% as estimated by the two analysts watching the company. With the market predicted to deliver 14% growth , that's a disappointing outcome.

In light of this, it's alarming that Dolby Laboratories' P/E sits above the majority of other companies. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh heavily on the share price eventually.

The Final Word

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Dolby Laboratories currently trades on a much higher than expected P/E for a company whose earnings are forecast to decline. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings are highly unlikely to support such positive sentiment for long. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

There are also other vital risk factors to consider and we've discovered 2 warning signs for Dolby Laboratories (1 is a bit unpleasant!) that you should be aware of before investing here.

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

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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.