The Environmental Group Limited (ASX:EGL) shareholders won't be pleased to see that the share price has had a very rough month, dropping 32% and undoing the prior period's positive performance. Looking back over the past twelve months the stock has been a solid performer regardless, with a gain of 20%.

Even after such a large drop in price, Environmental Group's price-to-earnings (or "P/E") ratio of 23.8x might still make it look like a sell right now compared to the market in Australia, where around half of the companies have P/E ratios below 19x and even P/E's below 11x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times have been advantageous for Environmental Group as its earnings have been rising faster than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.

Check out our latest analysis for Environmental Group

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Environmental Group.

Is There Enough Growth For Environmental Group?

There's an inherent assumption that a company should outperform the market for P/E ratios like Environmental Group's to be considered reasonable.

Taking a look back first, we see that the company grew earnings per share by an impressive 45% last year. The latest three year period has also seen an excellent 89% overall rise in EPS, aided by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Shifting to the future, estimates from the only analyst covering the company suggest earnings should grow by 37% over the next year. That's shaping up to be materially higher than the 25% growth forecast for the broader market.

In light of this, it's understandable that Environmental Group's P/E sits above the majority of other companies. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Key Takeaway

Environmental Group's P/E hasn't come down all the way after its stock plunged. 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 Environmental Group maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

Plus, you should also learn about these 2 warning signs we've spotted with Environmental Group.

You might be able to find a better investment than Environmental Group. 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).

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.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.