Cintas Corporation's (NASDAQ:CTAS) price-to-earnings (or "P/E") ratio of 47.9x 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 16x and even P/E's below 9x 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.
With its earnings growth in positive territory compared to the declining earnings of most other companies, Cintas 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.
Does Growth Match The High P/E?
There's an inherent assumption that a company should far outperform the market for P/E ratios like Cintas' to be considered reasonable.
Taking a look back first, we see that the company grew earnings per share by an impressive 16% last year. The strong recent performance means it was also able to grow EPS by 57% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been superb for the company.
Turning to the outlook, the next three years should generate growth of 9.0% per annum as estimated by the analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 10% per annum, which is not materially different.
With this information, we find it interesting that Cintas is trading at a high P/E compared to the market. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for disappointment if the P/E falls to levels more in line with the growth outlook.
The Key Takeaway
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.
Our examination of Cintas' analyst forecasts revealed that its market-matching earnings outlook isn't impacting its high P/E as much as we would have predicted. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.
Before you take the next step, you should know about the 1 warning sign for Cintas that we have uncovered.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.
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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.
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