Godrej Industries Limited (NSE:GODREJIND) Stock Rockets 29% As Investors Are Less Pessimistic Than Expected

Godrej Industries Limited (NSE:GODREJIND) shares have had a really impressive month, gaining 29% after a shaky period beforehand. The last 30 days bring the annual gain to a very sharp 41%.

Following the firm bounce in price, given close to half the companies in India have price-to-earnings ratios (or "P/E's") below 26x, you may consider Godrej Industries as a stock to avoid entirely with its 78.5x P/E ratio. 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.

As an illustration, earnings have deteriorated at Godrej Industries over the last year, which is not ideal at all. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Godrej Industries

Although there are no analyst estimates available for Godrej Industries, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

Does Growth Match The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Godrej Industries' to be considered reasonable.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 28%. Regardless, EPS has managed to lift by a handy 18% in aggregate from three years ago, thanks to the earlier period of growth. So we can start by confirming that the company has generally done a good job of growing earnings over that time, even though it had some hiccups along the way.

Comparing that to the market, which is predicted to deliver 25% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

With this information, we find it concerning that Godrej Industries is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates 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.

What We Can Learn From Godrej Industries' P/E?

Shares in Godrej Industries have built up some good momentum lately, which has really inflated its P/E. 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 Godrej Industries revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. When we see weak earnings with slower than market growth, 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 should always think about risks. Case in point, we've spotted 3 warning signs for Godrej Industries you should be aware of, and 1 of them is a bit unpleasant.

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.

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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.