It's not a stretch to say that Viper Energy, Inc.'s (NASDAQ:VNOM) price-to-earnings (or "P/E") ratio of 17.8x right now seems quite "middle-of-the-road" compared to the market in the United States, where the median P/E ratio is around 17x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.
With its earnings growth in positive territory compared to the declining earnings of most other companies, Viper Energy has been doing quite well of late. It might be that many expect the strong earnings performance to deteriorate like the rest, which has kept the P/E from rising. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's not quite in favour.
How Is Viper Energy's Growth Trending?
The only time you'd be comfortable seeing a P/E like Viper Energy's is when the company's growth is tracking the market closely.
If we review the last year of earnings growth, the company posted a terrific increase of 26%. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. 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 bring diminished returns, with earnings decreasing 22% each year as estimated by the seven analysts watching the company. With the market predicted to deliver 10% growth per year, that's a disappointing outcome.
With this information, we find it concerning that Viper Energy is trading at a fairly similar P/E to the market. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock right now. 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 negative growth outlook.
The Final Word
Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.
We've established that Viper Energy currently trades on a higher than expected P/E for a company whose earnings are forecast to decline. When we see a poor outlook with earnings heading backwards, we suspect share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.
You should always think about risks. Case in point, we've spotted 2 warning signs for Viper Energy you should be aware of, and 1 of them makes us a bit uncomfortable.
You might be able to find a better investment than Viper Energy. 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).
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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.