Some Shareholders Feeling Restless Over Rainbow Children's Medicare Limited's (NSE:RAINBOW) P/E Ratio

When close to half the companies in India have price-to-earnings ratios (or "P/E's") below 28x, you may consider Rainbow Children's Medicare Limited (NSE:RAINBOW) as a stock to avoid entirely with its 54.4x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

Recent times have been advantageous for Rainbow Children's Medicare as its earnings have been rising faster than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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How Is Rainbow Children's Medicare's Growth Trending?

In order to justify its P/E ratio, Rainbow Children's Medicare would need to produce outstanding growth well in excess of the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 26% last year. Pleasingly, EPS has also lifted 397% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Looking ahead now, EPS is anticipated to climb by 21% each year during the coming three years according to the seven analysts following the company. That's shaping up to be similar to the 20% each year growth forecast for the broader market.

In light of this, it's curious that Rainbow Children's Medicare's P/E sits above the majority of other companies. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

What We Can Learn From Rainbow Children's Medicare'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 Rainbow Children's Medicare currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

A lot of potential risks can sit within a company's balance sheet. Take a look at our free balance sheet analysis for Rainbow Children's Medicare with six simple checks on some of these key factors.

If you're unsure about the strength of Rainbow Children's Medicare'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.