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With a price-to-earnings (or "P/E") ratio of 6.3x Premier, Inc. (NASDAQ:PINC) may be sending very bullish signals at the moment, given that almost half of all companies in the United States have P/E ratios greater than 22x and even P/E's higher than 43x are not unusual. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.
Premier certainly has been doing a good job lately as it's been growing earnings more than most other companies. It might be that many expect the strong earnings performance to degrade substantially, which has repressed the P/E. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.
Want the full picture on analyst estimates for the company? Then our free report on Premier will help you uncover what's on the horizon.
What Are Growth Metrics Telling Us About The Low P/E?
The only time you'd be truly comfortable seeing a P/E as depressed as Premier's is when the company's growth is on track to lag the market decidedly.
If we review the last year of earnings growth, the company posted a terrific increase of 24%. The strong recent performance means it was also able to grow EPS by 31% in total over the last three years. So we can start by confirming that the company has done a great job of growing earnings over that time.
Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 23% per year as estimated by the analysts watching the company. That's not great when the rest of the market is expected to grow by 16% per annum.
In light of this, it's understandable that Premier's P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.
The Final Word
We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.
As we suspected, our examination of Premier's analyst forecasts revealed that its outlook for shrinking earnings is contributing to its low P/E. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.
We don't want to rain on the parade too much, but we did also find 3 warning signs for Premier (1 is potentially serious!) that you need to be mindful of.
If these risks are making you reconsider your opinion on Premier, explore our interactive list of high quality stocks to get an idea of what else is out there.
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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