When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 13x, you may consider Abbott Laboratories (NYSE:ABT) as a stock to potentially avoid with its 19.9x P/E ratio. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.
Abbott Laboratories certainly has been doing a good job lately as it's been growing earnings more than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
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Does Growth Match The High P/E?
Abbott Laboratories' P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.
Taking a look back first, we see that the company grew earnings per share by an impressive 35% last year. The latest three year period has also seen an excellent 199% overall rise in EPS, aided by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.
Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 3.3% per year as estimated by the analysts watching the company. Meanwhile, the broader market is forecast to expand by 9.6% per year, which paints a poor picture.
With this information, we find it concerning that Abbott Laboratories is trading at a P/E higher than the market. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh heavily on the share price eventually.
The Key Takeaway
It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.
We've established that Abbott Laboratories currently trades on a much higher than expected P/E for a company whose earnings are forecast to decline. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings are highly unlikely to support such positive sentiment for long. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.
It is also worth noting that we have found 2 warning signs for Abbott Laboratories that you need to take into consideration.
If these risks are making you reconsider your opinion on Abbott Laboratories, explore our interactive list of high quality stocks to get an idea of what else is out there.
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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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