AGL Energy Limited's (ASX:AGL) Price Is Right But Growth Is Lacking

When close to half the companies in Australia have price-to-earnings ratios (or "P/E's") above 17x, you may consider AGL Energy Limited (ASX:AGL) as an attractive investment with its 9.7x P/E ratio. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

With earnings growth that's superior to most other companies of late, AGL Energy has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. 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 out of favour.

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What Are Growth Metrics Telling Us About The Low P/E?

In order to justify its P/E ratio, AGL Energy would need to produce sluggish growth that's trailing the market.

Retrospectively, the last year delivered a decent 15% gain to the company's bottom line. This was backed up an excellent period prior to see EPS up by 97% in total over the last three years. So we can start by confirming that the company has done a great job of growing earnings over that time.

Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 22% each year as estimated by the eleven analysts watching the company. That's not great when the rest of the market is expected to grow by 13% each year.

In light of this, it's understandable that AGL Energy's P/E would sit below the majority of other companies. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.

What We Can Learn From AGL Energy'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 AGL Energy maintains its low P/E on the weakness of its forecast for sliding earnings, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.

Before you take the next step, you should know about the 2 warning signs for AGL Energy (1 is a bit unpleasant!) that we have uncovered.

If these risks are making you reconsider your opinion on AGL Energy, explore our interactive list of high quality stocks to get an idea of what else is out there.

This article by Simply Wall St is general in nature. 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.

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