Graham Holdings Company's (NYSE:GHC) price-to-earnings (or "P/E") ratio of 5.3x might make it look like a strong buy right now compared to the market in the United States, where around half of the companies have P/E ratios above 17x and even P/E's above 30x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.
With earnings growth that's exceedingly strong of late, Graham Holdings has been doing very well. It might be that many expect the strong earnings performance to degrade substantially, which has repressed the P/E. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.
See our latest analysis for Graham Holdings
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 Graham Holdings' 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 274%. Pleasingly, EPS has also lifted 134% in aggregate from three years ago, thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing earnings over that time.
Comparing that to the market, which is only predicted to deliver 13% growth in the next 12 months, the company's momentum is stronger based on recent medium-term annualised earnings results.
In light of this, it's peculiar that Graham Holdings' P/E sits below the majority of other companies. It looks like most investors are not convinced the company can maintain its recent growth rates.
What We Can Learn From Graham Holdings' P/E?
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.
We've established that Graham Holdings currently trades on a much lower than expected P/E since its recent three-year growth is higher than the wider market forecast. There could be some major unobserved threats to earnings preventing the P/E ratio from matching this positive performance. It appears many are indeed anticipating earnings instability, because the persistence of these recent medium-term conditions would normally provide a boost to the share price.
And what about other risks? Every company has them, and we've spotted 1 warning sign for Graham Holdings you should know about.
You might be able to find a better investment than Graham Holdings. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).
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