Earnings Working Against Engenco Limited's (ASX:EGN) Share Price

Engenco Limited's (ASX:EGN) price-to-earnings (or "P/E") ratio of 9.3x might make it look like a strong buy right now compared to the market in Australia, where around half of the companies have P/E ratios above 20x and even P/E's above 37x are quite common. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

Recent times have been quite advantageous for Engenco as its earnings have been rising very briskly. One possibility is that the P/E is low because investors think this strong earnings growth might actually underperform 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.

View our latest analysis for Engenco

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Engenco will help you shine a light on its historical performance.

Is There Any Growth For Engenco?

In order to justify its P/E ratio, Engenco would need to produce anemic growth that's substantially trailing the market.

If we review the last year of earnings growth, the company posted a terrific increase of 454%. Still, incredibly EPS has fallen 39% in total from three years ago, which is quite disappointing. 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 29% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's understandable that Engenco's P/E would sit below the majority of other companies. However, we think shrinking earnings are unlikely to lead to a stable P/E over the longer term, which could set up shareholders for future disappointment. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

What We Can Learn From Engenco's P/E?

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.

We've established that Engenco maintains its low P/E on the weakness of its sliding earnings over the medium-term, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

We don't want to rain on the parade too much, but we did also find 2 warning signs for Engenco that you need to be mindful of.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.