When close to half the companies in India have price-to-earnings ratios (or “P/E’s”) above 13x, you may consider Sumit Woods Limited (NSE:SUMIT) as an attractive investment with its 10.7x P/E ratio. However, the P/E might be low for a reason and it requires further investigation to determine if it’s justified.
For example, consider that Sumit Woods’ financial performance has been poor lately as it’s earnings have been in decline. One possibility is that the P/E is low because investors think the company won’t do enough to avoid underperforming the broader market in the near future. 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.
See our latest analysis for Sumit Woods
Does Growth Match The Low P/E?
The only time you’d be truly comfortable seeing a P/E as low as Sumit Woods’ is when the company’s growth is on track to lag the market.
Retrospectively, the last year delivered a frustrating 58% decrease to the company’s bottom line. This means it has also seen a slide in earnings over the longer-term as EPS is down 37% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Weighing that medium-term earnings trajectory against the broader market’s one-year forecast for a contraction of 2.5% shows the market is more attractive on an annualised basis regardless.
With this information, it’s not too hard to see why Sumit Woods is trading at a lower P/E in comparison. Nonetheless, with earnings going quickly in reverse, it’s not guaranteed that the P/E has found a floor yet. There’s potential for the P/E to fall to even lower levels if the company doesn’t improve its profitability, which would be difficult to do with the current market outlook.
The Key Takeaway
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 Sumit Woods maintains its low P/E on the weakness of its recentthree-year earnings being even worse than the forecasts for a struggling market, as expected. Right now shareholders are accepting the low P/E as they concede future earnings probably won’t provide any pleasant surprises. However, we’re still cautious about the company’s ability to prevent an acceleration of its recent medium-term course and resist even greater pain to its business from the broader market turmoil. In the meantime, unless the company’s relative performance improves, the share price will hit a barrier around these levels.
It’s always necessary to consider the ever-present spectre of investment risk. We’ve identified 4 warning signs with Sumit Woods (at least 2 which are a bit concerning), and understanding them should be part of your investment process.
If you’re unsure about the strength of Sumit Woods’ business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.
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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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