There's Reason For Concern Over Hindustan Unilever Limited's (NSE:HINDUNILVR) Price

When close to half the companies in India have price-to-earnings ratios (or "P/E's") below 29x, you may consider Hindustan Unilever Limited (NSE:HINDUNILVR) as a stock to avoid entirely with its 60.8x 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 haven't been advantageous for Hindustan Unilever 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Hindustan Unilever

Keen to find out how analysts think Hindustan Unilever's future stacks up against the industry? In that case, our free report is a great place to start.

Does Growth Match The High P/E?

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

Taking a look back first, we see that the company managed to grow earnings per share by a handy 6.6% last year. The latest three year period has also seen an excellent 41% overall rise in EPS, aided somewhat 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 analysts covering the company suggest earnings should grow by 11% per annum over the next three years. With the market predicted to deliver 19% growth per year, the company is positioned for a weaker earnings result.

With this information, we find it concerning that Hindustan Unilever is trading at a P/E higher than the market. 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. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Key Takeaway

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 Hindustan Unilever 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's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Hindustan Unilever, and understanding should be part of your investment process.

You might be able to find a better investment than Hindustan Unilever. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.