Marathon Petroleum Corporation's (NYSE:MPC) price-to-earnings (or "P/E") ratio of 5.1x might make it look like a strong buy right now compared to the market in the United States, where around half of the companies have P/E ratios above 17x and even P/E's above 32x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.
Marathon Petroleum certainly has been doing a good job lately as it's been growing earnings more than most other companies. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive 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 out of favour.
Check out our latest analysis for Marathon Petroleum
Does Growth Match The Low P/E?
There's an inherent assumption that a company should far underperform the market for P/E ratios like Marathon Petroleum's to be considered reasonable.
Taking a look back first, we see that the company grew earnings per share by an impressive 22% last year. However, the latest three year period hasn't been as great in aggregate as it didn't manage to provide any growth at all. So it appears to us that the company has had a mixed result in terms of growing earnings over that time.
Looking ahead now, EPS is anticipated to slump, contracting by 17% per annum during the coming three years according to the analysts following the company. That's not great when the rest of the market is expected to grow by 13% each year.
With this information, we are not surprised that Marathon Petroleum is trading at a P/E lower than the market. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.
The Final Word
Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.
As we suspected, our examination of Marathon Petroleum's analyst forecasts revealed that its outlook for shrinking earnings is contributing to its low P/E. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.
It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Marathon Petroleum (at least 1 which is concerning), and understanding them should be part of your investment process.
If these risks are making you reconsider your opinion on Marathon Petroleum, 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.