With a price-to-earnings (or "P/E") ratio of 46.2x Exponent, Inc. (NASDAQ:EXPO) may be sending very bearish signals at the moment, given that almost half of all companies in the United States have P/E ratios under 17x and even P/E's lower than 10x are not unusual. 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.
Recent times have been pleasing for Exponent as its earnings have risen in spite of the market's earnings going into reverse. 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?
Exponent's P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.
If we review the last year of earnings growth, the company posted a worthy increase of 4.5%. The solid recent performance means it was also able to grow EPS by 7.3% in total over the last three years. Accordingly, shareholders would have probably been satisfied with the medium-term rates of earnings growth.
Looking ahead now, EPS is anticipated to climb by 0.05% during the coming year according to the three analysts following the company. That's shaping up to be materially lower than the 15% growth forecast for the broader market.
In light of this, it's alarming that Exponent's P/E sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.
The Key Takeaway
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.
Our examination of Exponent's analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.
It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Exponent, and understanding should be part of your investment process.
If these risks are making you reconsider your opinion on Exponent, explore our interactive list of high quality stocks to get an idea of what else is out there.
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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.
