International Business Machines Corporation's (NYSE:IBM) price-to-earnings (or "P/E") ratio of 13.4x might make it look like a buy right now compared to the market in the United States, where around half of the companies have P/E ratios above 18x and even P/E's above 36x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.
With earnings that are retreating more than the market's of late, International Business Machines has been very sluggish. It seems that many are expecting the dismal earnings performance to persist, which has repressed the P/E. You'd much rather the company wasn't bleeding earnings if you still believe in the business. Or at the very least, you'd be hoping the earnings slide doesn't get any worse if your plan is to pick up some stock while it's out of favour.
Want the full picture on analyst estimates for the company? Then our free report on International Business Machines will help you uncover what's on the horizon.
What Are Growth Metrics Telling Us About The Low P/E?
There's an inherent assumption that a company should underperform the market for P/E ratios like International Business Machines' to be considered reasonable.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 8.7%. As a result, earnings from three years ago have also fallen 27% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
Looking ahead now, EPS is anticipated to climb by 7.9% per year during the coming three years according to the analysts following the company. That's shaping up to be materially lower than the 13% per annum growth forecast for the broader market.
In light of this, it's understandable that International Business Machines' P/E sits below the majority of other companies. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.
What We Can Learn From International Business Machines' 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 International Business Machines' analyst forecasts revealed that its inferior earnings outlook 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. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.
It is also worth noting that we have found 2 warning signs for International Business Machines that you need to take into consideration.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a P/E below 20x.
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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