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With a price-to-earnings (or "P/E") ratio of 44.7x Burger Fuel Group Limited (NZSE:BFG) may be sending very bearish signals at the moment, given that almost half of all companies in New Zealand have P/E ratios under 18x and even P/E's lower than 10x 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.
As an illustration, earnings have deteriorated at Burger Fuel Group over the last year, which is not ideal at all. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
Where Does Burger Fuel Group's P/E Sit Within Its Industry?
We'd like to see if P/E's within Burger Fuel Group's industry might provide some colour around the company's particularly high P/E ratio. The image below shows that the Hospitality industry as a whole also has a P/E ratio higher than the market. So this goes some way towards explaining the company's ratio right now. Ordinarily, the majority of companies' P/E's would be lifted by the general conditions within the Hospitality industry. Whilst this can be a heavy component, industry factors are normally secondary to company financials and earnings.
Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Burger Fuel Group will help you shine a light on its historical performance.
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 Burger Fuel Group's to be considered reasonable.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 57%. The last three years don't look nice either as the company has shrunk EPS by 37% in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Comparing that to the market, which is predicted to shrink 7.8% in the next 12 months, the company's downward momentum is still inferior based on recent medium-term annualised earnings results.
With this information, it's strange that Burger Fuel Group is trading at a higher P/E in comparison. In general, when earnings shrink rapidly the P/E premium often shrinks too, which could set up shareholders for future disappointment. Maintaining these prices will be extremely difficult to achieve as a continuation of recent earnings trends is likely to weigh down the shares eventually.
The Final Word
Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.
Our examination of Burger Fuel Group revealed its sharp three-year contraction in earnings isn't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to shrink less severely. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is unlikely to support such positive sentiment for long. We're also cautious about the company's ability to stay its recent medium-term course and resist even greater pain to its business from the broader market turmoil. This would place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.
You should always think about risks. Case in point, we've spotted 3 warning signs for Burger Fuel Group you should be aware of.
If P/E ratios interest you, you may wish to see this free collection of other companies that have grown earnings strongly and trade on P/E's below 20x.
This article by Simply Wall St is general in nature. 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.
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