Rocky Mountain Liquor Inc.'s (CVE:RUM) 40% Share Price Surge Not Quite Adding Up

Rocky Mountain Liquor Inc. (CVE:RUM) shareholders are no doubt pleased to see that the share price has bounced 40% in the last month, although it is still struggling to make up recently lost ground. Looking further back, the 17% rise over the last twelve months isn't too bad notwithstanding the strength over the last 30 days.

After such a large jump in price, given around half the companies in Canada have price-to-earnings ratios (or "P/E's") below 14x, you may consider Rocky Mountain Liquor as a stock to potentially avoid with its 17.3x P/E ratio. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Rocky Mountain Liquor certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. The P/E is probably high because investors think this strong earnings growth will be enough to outperform the broader market in the near future. If not, then existing shareholders might be a little nervous about the viability of the share price.

View our latest analysis for Rocky Mountain Liquor

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

How Is Rocky Mountain Liquor's Growth Trending?

In order to justify its P/E ratio, Rocky Mountain Liquor would need to produce impressive growth in excess of the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 95% last year. However, this wasn't enough as the latest three year period has seen a very unpleasant 77% drop in EPS in aggregate. 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 23% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

With this information, we find it concerning that Rocky Mountain Liquor is trading at a P/E higher than the market. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Bottom Line On Rocky Mountain Liquor's P/E

The large bounce in Rocky Mountain Liquor's shares has lifted the company's P/E to a fairly high level. 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 Rocky Mountain Liquor 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. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. 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.

You always need to take note of risks, for example - Rocky Mountain Liquor has 1 warning sign we think you should be aware 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com