Orica Limited's (ASX:ORI) Prospects Need A Boost To Lift Shares

Orica Limited's (ASX:ORI) price-to-earnings (or "P/E") ratio of 15.8x might make it look like a 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 36x are quite common. However, the P/E might be low 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, Orica has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

See our latest analysis for Orica

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

How Is Orica's Growth Trending?

Orica's P/E ratio would be typical for a company that's only expected to deliver limited growth, and importantly, perform worse than the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 70% last year. However, the latest three year period hasn't been as great in aggregate as it didn't manage to provide any growth at all. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Looking ahead now, EPS is anticipated to climb by 5.5% each year during the coming three years according to the analysts following the company. With the market predicted to deliver 18% growth per year, the company is positioned for a weaker earnings result.

In light of this, it's understandable that Orica's P/E sits below the majority of other companies. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.

The Final Word

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

As we suspected, our examination of Orica's analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Orica, and understanding them should be part of your investment process.

If these risks are making you reconsider your opinion on Orica, 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. 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.