Why Investors Shouldn't Be Surprised By Larsen & Toubro Limited's (NSE:LT) P/E

When close to half the companies in India have price-to-earnings ratios (or "P/E's") below 25x, you may consider Larsen & Toubro Limited (NSE:LT) as a stock to potentially avoid with its 33x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

Recent times haven't been advantageous for Larsen & Toubro as its earnings have been rising slower than most other companies. It might be that many expect the uninspiring earnings performance to recover significantly, which has kept the P/E from collapsing. If not, then existing shareholders may be very nervous about the viability of the share price.

Check out our latest analysis for Larsen & Toubro

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Is There Enough Growth For Larsen & Toubro?

Larsen & Toubro's P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Taking a look back first, we see that the company managed to grow earnings per share by a handy 11% last year. Pleasingly, EPS has also lifted 69% in aggregate from three years ago, partly 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 year should generate growth of 30% as estimated by the analysts watching the company. That's shaping up to be materially higher than the 25% growth forecast for the broader market.

With this information, we can see why Larsen & Toubro is trading at such a high P/E compared to the market. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Bottom Line On Larsen & Toubro's P/E

We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

We've established that Larsen & Toubro maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless these conditions change, they will continue to provide strong support to the share price.

You need to take note of risks, for example - Larsen & Toubro has 2 warning signs (and 1 which is a bit unpleasant) we think you should know about.

If you're unsure about the strength of Larsen & Toubro's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.