When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 16x, you may consider Amdocs Limited (NASDAQ:DOX) as a stock to potentially avoid with its 18.8x P/E ratio. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.
While the market has experienced earnings growth lately, Amdocs' earnings have gone into reverse gear, which is not great. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be extremely nervous about the viability of the share price.
See our latest analysis for Amdocs
What Are Growth Metrics Telling Us About The High P/E?
Amdocs' P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.
Retrospectively, the last year delivered a frustrating 7.9% decrease to the company's bottom line. That put a dampener on the good run it was having over the longer-term as its three-year EPS growth is still a noteworthy 7.5% in total. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been mostly respectable for the company.
Looking ahead now, EPS is anticipated to climb by 9.7% per year during the coming three years according to the five analysts following the company. Meanwhile, the rest of the market is forecast to expand by 10% each year, which is not materially different.
In light of this, it's curious that Amdocs' P/E sits above the majority of other companies. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price 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.
We've established that Amdocs currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. Right now we are uncomfortable with the relatively high share price as the predicted future earnings aren't likely to support such positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.
The company's balance sheet is another key area for risk analysis. You can assess many of the main risks through our free balance sheet analysis for Amdocs with six simple checks.
If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.
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.