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National Grid plc's (LON:NG.) Price In Tune With Earnings

Simply Wall St

When close to half the companies in the United Kingdom have price-to-earnings ratios (or "P/E's") below 15x, you may consider National Grid plc (LON:NG.) as a stock to avoid entirely with its 24.6x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

National Grid hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. One possibility is that the P/E is high because investors think this poor earnings performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for National Grid

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Want the full picture on analyst estimates for the company? Then our free report on National Grid will help you uncover what's on the horizon.

What Are Growth Metrics Telling Us About The High P/E?

National Grid's P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

Retrospectively, the last year delivered a frustrating 17% decrease to the company's bottom line. The last three years don't look nice either as the company has shrunk EPS by 30% in aggregate. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next three years should generate growth of 20% each year as estimated by the analysts watching the company. With the market only predicted to deliver 9.0% per year, the company is positioned for a stronger earnings result.

In light of this, it's understandable that National Grid's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Final Word

Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

As we suspected, our examination of National Grid's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. 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 need to take note of risks, for example - National Grid has 3 warning signs (and 1 which shouldn't be ignored) we think you should know about.

Of course, you might also be able to find a better stock than National Grid. So you may wish to see this free collection of other companies that sit on P/E's below 20x and have grown earnings strongly.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.