Pinning Down Cummins India Limited's (NSE:CUMMINSIND) P/E Is Difficult Right Now

With a price-to-earnings (or "P/E") ratio of 58x Cummins India Limited (NSE:CUMMINSIND) may be sending very bearish signals at the moment, given that almost half of all companies in India have P/E ratios under 33x and even P/E's lower than 19x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

With earnings growth that's superior to most other companies of late, Cummins India has been doing relatively well. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.

See our latest analysis for Cummins India

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

What Are Growth Metrics Telling Us About The High P/E?

In order to justify its P/E ratio, Cummins India would need to produce outstanding growth well in excess of the market.

If we review the last year of earnings growth, the company posted a terrific increase of 32%. Pleasingly, EPS has also lifted 121% 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.

Turning to the outlook, the next three years should generate growth of 11% per annum as estimated by the analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 20% each year, which is noticeably more attractive.

With this information, we find it concerning that Cummins India 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. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Bottom Line On Cummins India's P/E

Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Cummins India currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Before you take the next step, you should know about the 1 warning sign for Cummins India that we have uncovered.

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.