Lakshmi Machine Works Limited's (NSE:LAXMIMACH) Shares May Have Run Too Fast Too Soon

With a price-to-earnings (or "P/E") ratio of 58.3x Lakshmi Machine Works Limited (NSE:LAXMIMACH) may be sending very bearish signals at the moment, given that almost half of all companies in India have P/E ratios under 34x and even P/E's lower than 20x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

While the market has experienced earnings growth lately, Lakshmi Machine Works' earnings have gone into reverse gear, which is not great. One possibility is that the P/E is high because investors think this poor earnings performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for Lakshmi Machine Works

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How Is Lakshmi Machine Works' Growth Trending?

The only time you'd be truly comfortable seeing a P/E as steep as Lakshmi Machine Works' is when the company's growth is on track to outshine the market decidedly.

Retrospectively, the last year delivered a frustrating 28% decrease to the company's bottom line. Still, the latest three year period has seen an excellent 414% overall rise in EPS, in spite of its unsatisfying short-term performance. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.

Turning to the outlook, the next three years should generate growth of 16% each year as estimated by the two analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 20% each year, which is noticeably more attractive.

In light of this, it's alarming that Lakshmi Machine Works' P/E sits above 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 this level of earnings growth is likely to weigh heavily on the share price eventually.

The Final Word

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 Lakshmi Machine Works currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, 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.

It is also worth noting that we have found 1 warning sign for Lakshmi Machine Works that you need to take into consideration.

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.