It's not a stretch to say that Select Water Solutions, Inc.'s (NYSE:WTTR) price-to-earnings (or "P/E") ratio of 18.2x right now seems quite "middle-of-the-road" compared to the market in the United States, where the median P/E ratio is around 17x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.
The recently shrinking earnings for Select Water Solutions have been in line with the market. It seems that few are expecting the company's earnings performance to deviate much from most other companies, which has held the P/E back. If you still like the company, you'd want its earnings trajectory to turn around before making any decisions. In saying that, existing shareholders probably aren't too pessimistic about the share price if the company's earnings continue tracking the market.
What Are Growth Metrics Telling Us About The P/E?
In order to justify its P/E ratio, Select Water Solutions would need to produce growth that's similar to the market.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 4.1%. At least EPS has managed not to go completely backwards from three years ago in aggregate, thanks to the earlier period of growth. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.
Shifting to the future, estimates from the five analysts covering the company suggest earnings should grow by 17% over the next year. With the market only predicted to deliver 15%, the company is positioned for a stronger earnings result.
With this information, we find it interesting that Select Water Solutions is trading at a fairly similar P/E to the market. It may be that most investors aren't convinced the company can achieve future growth expectations.
The Final Word
We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.
We've established that Select Water Solutions currently trades on a lower than expected P/E since its forecast growth is higher than the wider market. When we see a strong earnings outlook with faster-than-market growth, we assume potential risks are what might be placing pressure on the P/E ratio. At least the risk of a price drop looks to be subdued, but investors seem to think future earnings could see some volatility.
You should always think about risks. Case in point, we've spotted 2 warning signs for Select Water Solutions you should be aware of.
It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and 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.