Eimco Elecon (India) Limited's (NSE:EIMCOELECO) Business Is Trailing The Market But Its Shares Aren't

Eimco Elecon (India) Limited's (NSE:EIMCOELECO) price-to-earnings (or "P/E") ratio of 18.5x might make it look like a sell right now compared to the market in India, where around half of the companies have P/E ratios below 13x and even P/E's below 6x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

As an illustration, earnings have deteriorated at Eimco Elecon (India) over the last year, which is not ideal at all. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Eimco Elecon (India)

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Eimco Elecon (India)'s earnings, revenue and cash flow.

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

There's an inherent assumption that a company should outperform the market for P/E ratios like Eimco Elecon (India)'s to be considered reasonable.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 59%. As a result, earnings from three years ago have also fallen 62% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

In contrast to the company, the rest of the market is expected to grow by 0.9% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's alarming that Eimco Elecon (India)'s P/E sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

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.

Our examination of Eimco Elecon (India) revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 5 warning signs with Eimco Elecon (India) (at least 1 which is a bit unpleasant), and understanding them should be part of your investment process.

If these risks are making you reconsider your opinion on Eimco Elecon (India), 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. 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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