There's Reason For Concern Over Emmbi Industries Limited's (NSE:EMMBI) Massive 25% Price Jump

The Emmbi Industries Limited (NSE:EMMBI) share price has done very well over the last month, posting an excellent gain of 25%. The last 30 days bring the annual gain to a very sharp 33%.

Since its price has surged higher, Emmbi Industries' price-to-earnings (or "P/E") ratio of 39.5x 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 31x and even P/E's below 17x 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.

For example, consider that Emmbi Industries' financial performance has been poor lately as its earnings have been in decline. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. If not, then existing shareholders may be quite nervous about the viability of the share price.

View our latest analysis for Emmbi Industries

Although there are no analyst estimates available for Emmbi Industries, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

How Is Emmbi Industries' Growth Trending?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 61%. The last three years don't look nice either as the company has shrunk EPS by 39% in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Comparing that to the market, which is predicted to deliver 25% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

In light of this, it's alarming that Emmbi Industries' P/E sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Final Word

The large bounce in Emmbi Industries' shares has lifted the company's P/E to a fairly high level. 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 Emmbi Industries currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Plus, you should also learn about these 4 warning signs we've spotted with Emmbi Industries (including 2 which are a bit concerning).

Of course, you might also be able to find a better stock than Emmbi Industries. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.