There Is A Reason Madras Fertilizers Limited's (NSE:MADRASFERT) Price Is Undemanding

Madras Fertilizers Limited's (NSE:MADRASFERT) price-to-earnings (or "P/E") ratio of 4.1x might make it look like a strong buy right now compared to the market in India, where around half of the companies have P/E ratios above 22x and even P/E's above 46x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so limited.

With earnings growth that's exceedingly strong of late, Madras Fertilizers has been doing very well. One possibility is that the P/E is low because investors think this strong earnings growth might actually underperform the broader market in the near future. If that doesn't eventuate, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

View our latest analysis for Madras Fertilizers

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How Is Madras Fertilizers' Growth Trending?

There's an inherent assumption that a company should far underperform the market for P/E ratios like Madras Fertilizers' to be considered reasonable.

Retrospectively, the last year delivered an exceptional 224% gain to the company's bottom line. However, the latest three year period hasn't been as great in aggregate as it didn't manage to provide any growth at all. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

This is in contrast to the rest of the market, which is expected to grow by 20% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we can see why Madras Fertilizers is trading at a P/E lower than the market. It seems most investors are expecting to see the recent limited growth rates continue into the future and are only willing to pay a reduced amount for the stock.

The Final Word

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 Madras Fertilizers maintains its low P/E on the weakness of its recent three-year growth being lower than the wider market forecast, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

We don't want to rain on the parade too much, but we did also find 2 warning signs for Madras Fertilizers that you need to be mindful of.

If these risks are making you reconsider your opinion on Madras Fertilizers, 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.