Neuren Pharmaceuticals Limited's (ASX:NEU) Shares Climb 26% But Its Business Is Yet to Catch Up

Neuren Pharmaceuticals Limited (ASX:NEU) shares have had a really impressive month, gaining 26% after a shaky period beforehand. Taking a wider view, although not as strong as the last month, the full year gain of 15% is also fairly reasonable.

Although its price has surged higher, it's still not a stretch to say that Neuren Pharmaceuticals' price-to-earnings (or "P/E") ratio of 18.1x right now seems quite "middle-of-the-road" compared to the market in Australia, where the median P/E ratio is around 19x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

Neuren Pharmaceuticals certainly has been doing a good job lately as it's been growing earnings more than most other companies. It might be that many expect the strong earnings performance to wane, which has kept the P/E from rising. 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 not quite in favour.

See our latest analysis for Neuren Pharmaceuticals

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

Is There Some Growth For Neuren Pharmaceuticals?

There's an inherent assumption that a company should be matching the market for P/E ratios like Neuren Pharmaceuticals' to be considered reasonable.

Retrospectively, the last year delivered an exceptional 110% gain to the company's bottom line. However, the latest three year period hasn't been as great in aggregate as it didn't manage to provide any growth at all. So it appears to us that the company has had a mixed result in terms of growing earnings over that time.

Shifting to the future, estimates from the six analysts covering the company suggest earnings growth is heading into negative territory, declining 6.2% per year over the next three years. Meanwhile, the broader market is forecast to expand by 18% per annum, which paints a poor picture.

In light of this, it's somewhat alarming that Neuren Pharmaceuticals' P/E sits in line with 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. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh on the share price eventually.

The Key Takeaway

Neuren Pharmaceuticals appears to be back in favour with a solid price jump getting its P/E back in line with most other companies. 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 Neuren Pharmaceuticals' analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its P/E as much as we would have predicted. When we see a poor outlook with earnings heading backwards, we suspect share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

You always need to take note of risks, for example - Neuren Pharmaceuticals has 1 warning sign we think 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.

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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.