Some Confidence Is Lacking In Praj Industries Limited's (NSE:PRAJIND) P/E

Praj Industries Limited's (NSE:PRAJIND) price-to-earnings (or "P/E") ratio of 34.7x might make it look like a sell right now compared to the market in India, where around half of the companies have P/E ratios below 29x and even P/E's below 16x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

With earnings growth that's inferior to most other companies of late, Praj Industries has been relatively sluggish. 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.

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Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as high as Praj Industries' is when the company's growth is on track to outshine the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 18% last year. The latest three year period has also seen an excellent 249% overall rise in EPS, aided by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Shifting to the future, estimates from the five analysts covering the company suggest earnings should grow by 20% over the next year. That's shaping up to be materially lower than the 25% growth forecast for the broader market.

With this information, we find it concerning that Praj Industries is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. 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 Key Takeaway

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Praj Industries 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.

We don't want to rain on the parade too much, but we did also find 2 warning signs for Praj Industries (1 doesn't sit too well with us!) that you need to be mindful of.

If these risks are making you reconsider your opinion on Praj Industries, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.