Sumitomo Chemical India Limited's (NSE:SUMICHEM) Business Is Yet to Catch Up With Its Share Price

With a price-to-earnings (or "P/E") ratio of 47.5x Sumitomo Chemical India Limited (NSE:SUMICHEM) may be sending very bearish signals at the moment, given that almost half of all companies in India have P/E ratios under 18x and even P/E's lower than 9x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Sumitomo Chemical India has been doing quite well of late. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for Sumitomo Chemical India

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How Is Sumitomo Chemical India's Growth Trending?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Sumitomo Chemical India's to be considered reasonable.

Taking a look back first, we see that the company grew earnings per share by an impressive 74% last year. Pleasingly, EPS has also lifted 117% in aggregate from three years ago, thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing earnings over that time.

Shifting to the future, estimates from the seven analysts covering the company suggest earnings should grow by 15% over the next year. Meanwhile, the rest of the market is forecast to expand by 29%, which is noticeably more attractive.

With this information, we find it concerning that Sumitomo Chemical India 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 Final Word

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 Sumitomo Chemical India currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

A lot of potential risks can sit within a company's balance sheet. Our free balance sheet analysis for Sumitomo Chemical India with six simple checks will allow you to discover any risks that could be an issue.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a P/E below 20x.

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