With a price-to-earnings (or "P/E") ratio of 20.2x PriceSmart, Inc. (NASDAQ:PSMT) may be sending bearish signals at the moment, given that almost half of all companies in the United States have P/E ratios under 17x and even P/E's lower than 10x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's as high as it is.

PriceSmart certainly has been doing a good job lately as its earnings growth has been positive while most other companies have been seeing their earnings go backwards. It seems that many are expecting the company to continue defying the broader market adversity, which has increased investors' willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Is There Enough Growth For PriceSmart?

In order to justify its P/E ratio, PriceSmart would need to produce impressive growth in excess of the market.

Taking a look back first, we see that the company managed to grow earnings per share by a handy 8.9% last year. The latest three year period has also seen a 28% overall rise in EPS, aided somewhat by its short-term performance. Therefore, it's fair to say the earnings growth recently has been respectable for the company.

Turning to the outlook, the next year should generate growth of 16% as estimated by the three analysts watching the company. With the market predicted to deliver 15% growth , the company is positioned for a comparable earnings result.

With this information, we find it interesting that PriceSmart is trading at a high P/E compared to the market. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

The Bottom Line On PriceSmart's P/E

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 PriceSmart currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. Right now we are uncomfortable with the relatively high share price as the predicted future earnings aren't likely to support such positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Plus, you should also learn about this 1 warning sign we've spotted with PriceSmart.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.