With a price-to-earnings (or "P/E") ratio of 45.8x Onto Innovation Inc. (NYSE:ONTO) may be sending very bearish signals at the moment, given that almost half of all companies in the United States have P/E ratios under 16x and even P/E's lower than 8x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.
Onto Innovation has been struggling lately as its earnings have declined faster than most other companies. It might be that many expect the dismal earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be very nervous about the viability of the share price.
Check out our latest analysis for Onto Innovation
Is There Enough Growth For Onto Innovation?
The only time you'd be truly comfortable seeing a P/E as steep as Onto Innovation's is when the company's growth is on track to outshine the market decidedly.
Retrospectively, the last year delivered a frustrating 22% decrease to the company's bottom line. Unfortunately, that's brought it right back to where it started three years ago with EPS growth being virtually non-existent overall during that time. Therefore, it's fair to say that earnings growth has been inconsistent recently for the company.
Looking ahead now, EPS is anticipated to climb by 3.2% during the coming year according to the five analysts following the company. With the market predicted to deliver 10% growth , the company is positioned for a weaker earnings result.
In light of this, it's alarming that Onto Innovation's P/E sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.
The Key Takeaway
Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.
We've established that Onto Innovation currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. 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. You can assess many of the main risks through our free balance sheet analysis for Onto Innovation with six simple checks.
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.