When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 16x, you may consider The Toro Company (NYSE:TTC) as a stock to avoid entirely with its 31.8x P/E ratio. 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.
Recent times haven't been advantageous for Toro as its earnings have been falling quicker than most other companies. It might be that many expect the dismal earnings performance to recover substantially, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
How Is Toro's Growth Trending?
In order to justify its P/E ratio, Toro would need to produce outstanding growth well in excess of the market.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 40%. As a result, earnings from three years ago have also fallen 20% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
Shifting to the future, estimates from the seven analysts covering the company suggest earnings should grow by 22% per year over the next three years. With the market only predicted to deliver 11% per annum, the company is positioned for a stronger earnings result.
With this information, we can see why Toro is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
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 Toro's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless these conditions change, they will continue to provide strong support to the share price.
You always need to take note of risks, for example - Toro has 4 warning signs we think you should be aware of.
Of course, you might also be able to find a better stock than Toro. 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.