When close to half the companies in Australia have price-to-earnings ratios (or "P/E's") below 17x, you may consider The Lottery Corporation Limited (ASX:TLC) as a stock to avoid entirely with its 28.5x P/E ratio. However, the P/E might be quite high 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, Lottery has been doing relatively well. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Lottery

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

Is There Enough Growth For Lottery?

The only time you'd be truly comfortable seeing a P/E as steep as Lottery's is when the company's growth is on track to outshine the market decidedly.

Taking a look back first, we see that the company grew earnings per share by an impressive 20% last year. The strong recent performance means it was also able to grow EPS by 40% in total over the last three years. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 8.3% per year during the coming three years according to the analysts following the company. With the market predicted to deliver 15% growth each year, the company is positioned for a weaker earnings result.

In light of this, it's alarming that Lottery'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. 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 growth outlook.

The Key Takeaway

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Lottery 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.

Before you settle on your opinion, we've discovered 2 warning signs for Lottery that you should be aware of.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.

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.