When close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 17x, you may consider Kforce Inc. (NYSE:KFRC) as a stock to potentially avoid with its 20.6x P/E ratio. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times haven't been advantageous for Kforce as its earnings have been falling quicker than most other companies. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. If not, then existing shareholders may be very nervous about the viability of the share price.

Does Growth Match The High P/E?

There's an inherent assumption that a company should outperform the market for P/E ratios like Kforce's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 20% decrease to the company's bottom line. At least EPS has managed not to go completely backwards from three years ago in aggregate, thanks to the earlier period of growth. Therefore, it's fair to say that earnings growth has been inconsistent recently for the company.

Turning to the outlook, the next three years should generate growth of 6.7% per annum as estimated by the five analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 10.0% per year, which is noticeably more attractive.

With this information, we find it concerning that Kforce is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Final Word

Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Kforce currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

The company's balance sheet is another key area for risk analysis. Our free balance sheet analysis for Kforce with six simple checks will allow you to discover any risks that could be an issue.

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.

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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.