Toll Brothers, Inc.'s (NYSE:TOL) price-to-earnings (or "P/E") ratio of 7.7x 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 32x 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.

Toll Brothers certainly has been doing a good job lately as it's been growing earnings more than most other companies. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

See our latest analysis for Toll Brothers

How Is Toll Brothers' Growth Trending?

Toll Brothers' P/E ratio would be typical for a company that's expected to deliver very poor growth or even falling earnings, and importantly, perform much worse than the market.

Taking a look back first, we see that the company managed to grow earnings per share by a handy 13% last year. Pleasingly, EPS has also lifted 284% in aggregate from three years ago, partly thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Looking ahead now, EPS is anticipated to climb by 2.3% per year during the coming three years according to the twelve analysts following the company. That's shaping up to be materially lower than the 13% each year growth forecast for the broader market.

With this information, we can see why Toll Brothers is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.

The Bottom Line On Toll Brothers' P/E

While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

As we suspected, our examination of Toll Brothers' analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. It's hard to see the share price rising strongly in the near future under these circumstances.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Toll Brothers, and understanding should be part of your investment process.

You might be able to find a better investment than Toll Brothers. 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).

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.