With a price-to-earnings (or "P/E") ratio of 13.4x Photronics, Inc. (NASDAQ:PLAB) may be sending bullish signals at the moment, given that almost half of all companies in the United States have P/E ratios greater than 18x and even P/E's higher than 32x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Photronics has been doing quite well of late. It might be that many expect the strong earnings performance to degrade substantially, possibly more than the market, which has repressed the P/E. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

How Is Photronics' Growth Trending?

There's an inherent assumption that a company should underperform the market for P/E ratios like Photronics' to be considered reasonable.

Retrospectively, the last year delivered an exceptional 24% gain to the company's bottom line. The latest three year period has also seen an excellent 341% overall rise in EPS, aided by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next year should bring diminished returns, with earnings decreasing 1.6% as estimated by the lone analyst watching the company. With the market predicted to deliver 12% growth , that's a disappointing outcome.

In light of this, it's understandable that Photronics' P/E would sit below the majority of other companies. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.

The Key Takeaway

Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

We've established that Photronics maintains its low P/E on the weakness of its forecast for sliding earnings, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

Many other vital risk factors can be found on the company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Photronics with six simple checks.

Of course, you might also be able to find a better stock than Photronics. 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.