With a price-to-earnings (or "P/E") ratio of 25.9x Tempur Sealy International, Inc. (NYSE:TPX) 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 16x and even P/E's lower than 9x 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.
With earnings that are retreating more than the market's of late, Tempur Sealy International has been very sluggish. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. If not, then existing shareholders may be very nervous about the viability of the share price.
Does Growth Match The High P/E?
There's an inherent assumption that a company should far outperform the market for P/E ratios like Tempur Sealy International's to be considered reasonable.
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 18%. That put a dampener on the good run it was having over the longer-term as its three-year EPS growth is still a noteworthy 26% in total. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of earnings growth.
Looking ahead now, EPS is anticipated to climb by 16% per annum during the coming three years according to the eleven analysts following the company. That's shaping up to be materially higher than the 10% each year growth forecast for the broader market.
With this information, we can see why Tempur Sealy International is trading at such a high P/E compared to the market. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.
The Key Takeaway
While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.
We've established that Tempur Sealy International maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. It's hard to see the share price falling strongly in the near future under these circumstances.
You should always think about risks. Case in point, we've spotted 2 warning signs for Tempur Sealy International you should be aware of.
You might be able to find a better investment than Tempur Sealy International. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).
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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.