Alfa Financial Software Holdings PLC's (LON:ALFA) Shares Climb 26% But Its Business Is Yet to Catch Up

Alfa Financial Software Holdings PLC (LON:ALFA) shareholders would be excited to see that the share price has had a great month, posting a 26% gain and recovering from prior weakness. Longer-term shareholders would be thankful for the recovery in the share price since it's now virtually flat for the year after the recent bounce.

After such a large jump in price, Alfa Financial Software Holdings' price-to-earnings (or "P/E") ratio of 19.8x might make it look like a sell right now compared to the market in the United Kingdom, where around half of the companies have P/E ratios below 14x and even P/E's below 8x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times have been pleasing for Alfa Financial Software Holdings as its earnings have risen in spite of the market's earnings going into reverse. It seems that many are expecting the company to continue defying the broader market adversity, which has increased investors’ willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Alfa Financial Software Holdings

Keen to find out how analysts think Alfa Financial Software Holdings' future stacks up against the industry? In that case, our free report is a great place to start.

Is There Enough Growth For Alfa Financial Software Holdings?

There's an inherent assumption that a company should outperform the market for P/E ratios like Alfa Financial Software Holdings' to be considered reasonable.

Retrospectively, the last year delivered an exceptional 20% gain to the company's bottom line. Pleasingly, EPS has also lifted 87% in aggregate from three years ago, thanks to the last 12 months of growth. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Shifting to the future, estimates from the three analysts covering the company suggest earnings growth is heading into negative territory, declining 5.3% per annum over the next three years. Meanwhile, the broader market is forecast to expand by 11% per annum, which paints a poor picture.

With this information, we find it concerning that Alfa Financial Software Holdings is trading at a P/E higher than the market. 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. There's a very good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the negative growth outlook.

The Key Takeaway

Alfa Financial Software Holdings shares have received a push in the right direction, but its P/E is elevated too. 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.

Our examination of Alfa Financial Software Holdings' analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a poor outlook with earnings heading backwards, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

There are also other vital risk factors to consider and we've discovered 2 warning signs for Alfa Financial Software Holdings (1 is potentially serious!) that you should be aware of before investing here.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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

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.