There wouldn't be many who think Yelp Inc.'s (NYSE:YELP) price-to-earnings (or "P/E") ratio of 16.1x is worth a mention when the median P/E in the United States is similar at about 17x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.
Yelp certainly has been doing a good job lately as its earnings growth has been positive while most other companies have been seeing their earnings go backwards. One possibility is that the P/E is moderate because investors think the company's earnings will be less resilient moving forward. 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 not quite in favour.
How Is Yelp's Growth Trending?
In order to justify its P/E ratio, Yelp would need to produce growth that's similar to the market.
Retrospectively, the last year delivered an exceptional 228% gain to the company's bottom line. Pleasingly, EPS has also lifted 730% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.
Shifting to the future, estimates from the ten analysts covering the company suggest earnings should grow by 9.5% per annum over the next three years. That's shaping up to be similar to the 10% per year growth forecast for the broader market.
With this information, we can see why Yelp is trading at a fairly similar P/E to the market. It seems most investors are expecting to see average future growth and are only willing to pay a moderate amount for the stock.
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.
As we suspected, our examination of Yelp's analyst forecasts revealed that its market-matching earnings outlook is contributing to its current P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings won't throw up any surprises. It's hard to see the share price moving strongly in either direction in the near future under these circumstances.
Many other vital risk factors can be found on the company's balance sheet. Our free balance sheet analysis for Yelp with six simple checks will allow you to discover any risks that could be an issue.
You might be able to find a better investment than Yelp. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).
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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.
