It's not a stretch to say that Gentex Corporation's (NASDAQ:GNTX) price-to-earnings (or "P/E") ratio of 17x right now seems quite "middle-of-the-road" compared to the market in the United States, where the median P/E ratio is around 18x. 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.
Gentex 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. It might be that many expect the strong earnings performance to deteriorate like the rest, which has kept the P/E from rising. 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.
What Are Growth Metrics Telling Us About The P/E?
There's an inherent assumption that a company should be matching the market for P/E ratios like Gentex's to be considered reasonable.
Retrospectively, the last year delivered a decent 15% gain to the company's bottom line. Ultimately though, it couldn't turn around the poor performance of the prior period, with EPS shrinking 5.9% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Looking ahead now, EPS is anticipated to climb by 12% per year during the coming three years according to the nine analysts following the company. Meanwhile, the rest of the market is forecast to expand by 10% per year, which is not materially different.
In light of this, it's understandable that Gentex's P/E sits in line with the majority of other companies. It seems most investors are expecting to see average future growth and are only willing to pay a moderate amount for the stock.
The Key Takeaway
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.
As we suspected, our examination of Gentex's analyst forecasts revealed that its market-matching earnings outlook is contributing to its current P/E. At this stage investors feel the potential for an improvement or deterioration in earnings isn't great enough to justify a high or low P/E ratio. Unless these conditions change, they will continue to support the share price at these levels.
Many other vital risk factors can be found on the company's balance sheet. Take a look at our free balance sheet analysis for Gentex with six simple checks on some of these key factors.
If you're unsure about the strength of Gentex's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.
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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.
