When close to half the companies in Singapore have price-to-earnings ratios (or "P/E's") below 11x, you may consider Thomson Medical Group Limited (SGX:A50) as a stock to avoid entirely with its 39.1x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.
For instance, Thomson Medical Group's receding earnings in recent times would have to be some food for thought. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/E from collapsing. If not, then existing shareholders may be quite nervous about the viability of the share price.
What Are Growth Metrics Telling Us About The High P/E?
The only time you'd be truly comfortable seeing a P/E as steep as Thomson Medical Group's is when the company's growth is on track to outshine the market decidedly.
Retrospectively, the last year delivered a frustrating 32% decrease to the company's bottom line. Unfortunately, that's brought it right back to where it started three years ago with EPS growth being virtually non-existent overall during that time. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.
Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 8.6% shows it's noticeably less attractive on an annualised basis.
With this information, we find it concerning that Thomson Medical Group is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.
The Key Takeaway
It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.
We've established that Thomson Medical Group currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. Right now we are increasingly uncomfortable with the high P/E as this earnings performance isn't likely to support such positive sentiment for long. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.
Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Thomson Medical Group (1 is significant) you should be aware of.
Of course, you might also be able to find a better stock than Thomson Medical Group. 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.