Why Investors Shouldn't Be Surprised By Drax Group plc's (LON:DRX) P/E
When close to half the companies in the United Kingdom have price-to-earnings ratios (or "P/E's") below 13x, you may consider Drax Group plc (LON:DRX) as a stock to avoid entirely with its 27.9x 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.
Recent times have been advantageous for Drax Group as its earnings have been rising faster than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.
Check out our latest analysis for Drax Group
If you'd like to see what analysts are forecasting going forward, you should check out our free report on Drax Group.
What Are Growth Metrics Telling Us About The High P/E?
There's an inherent assumption that a company should far outperform the market for P/E ratios like Drax Group's to be considered reasonable.
If we review the last year of earnings growth, the company posted a terrific increase of 52%. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. Therefore, it's fair to say that earnings growth has been inconsistent recently for the company.
Shifting to the future, estimates from the eight analysts covering the company suggest earnings should grow by 81% per year over the next three years. With the market only predicted to deliver 10% per annum, the company is positioned for a stronger earnings result.
In light of this, it's understandable that Drax Group's P/E sits above the majority of other companies. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.
What We Can Learn From Drax Group's P/E?
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 Drax Group'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.
There are also other vital risk factors to consider and we've discovered 3 warning signs for Drax Group (2 are potentially serious!) that you should be aware of before investing here.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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