Porto Seguro S.A.'s (BVMF:PSSA3) Share Price Not Quite Adding Up

There wouldn't be many who think Porto Seguro S.A.'s (BVMF:PSSA3) price-to-earnings (or "P/E") ratio of 9.5x is worth a mention when the median P/E in Brazil is similar at about 8x. Although, it's not wise to simply ignore the P/E without explanation as investors may be disregarding a distinct opportunity or a costly mistake.

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Recent times have been advantageous for Porto Seguro as its earnings have been rising faster than most other companies. It might be that many expect the strong earnings performance to wane, which has kept the P/E from rising. If not, then existing shareholders have reason to be feeling optimistic about the future direction of the share price.

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

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

Retrospectively, the last year delivered an exceptional 16% gain to the company's bottom line. Pleasingly, EPS has also lifted 72% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Shifting to the future, estimates from the eight analysts covering the company suggest earnings should grow by 11% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 15% per annum, which is noticeably more attractive.

With this information, we find it interesting that Porto Seguro is trading at a fairly similar P/E to the market. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. Maintaining these prices will be difficult to achieve as this level of earnings growth is likely to weigh down the shares eventually.

The Final Word

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 Porto Seguro currently trades on a 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 moderate P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

A lot of potential risks can sit within a company's balance sheet. Our free balance sheet analysis for Porto Seguro with six simple checks will allow you to discover any risks that could be an issue.

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

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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.