To the annoyance of some shareholders, e.l.f. Beauty, Inc. (NYSE:ELF) shares are down a considerable 27% in the last month, which continues a horrid run for the company. Longer-term shareholders will rue the drop in the share price, since it's now virtually flat for the year after a promising few quarters.
In spite of the heavy fall in price, e.l.f. Beauty may still be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 50.3x, since almost half of all companies in the United States have P/E ratios under 18x and even P/E's lower than 10x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.
e.l.f. Beauty 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. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. If not, then existing shareholders might be a little nervous about the viability of the share price.
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 e.l.f. Beauty's to be considered reasonable.
Taking a look back first, we see that the company grew earnings per share by an impressive 17% last year. The strong recent performance means it was also able to grow EPS by 730% 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 42% per year during the coming three years according to the analysts following the company. That's shaping up to be materially higher than the 10% per annum growth forecast for the broader market.
In light of this, it's understandable that e.l.f. Beauty's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
The Bottom Line On e.l.f. Beauty's P/E
A significant share price dive has done very little to deflate e.l.f. Beauty's very lofty P/E. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.
As we suspected, our examination of e.l.f. Beauty's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.
Don't forget that there may be other risks. For instance, we've identified 1 warning sign for e.l.f. Beauty that you should be aware of.
Of course, you might also be able to find a better stock than e.l.f. Beauty. 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.