Why Investors Shouldn't Be Surprised By MPS Limited's (NSE:MPSLTD) 27% Share Price Plunge

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MPS Limited (NSE:MPSLTD) shareholders won't be pleased to see that the share price has had a very rough month, dropping 27% and undoing the prior period's positive performance. To make matters worse, the recent drop has wiped out a year's worth of gains with the share price now back where it started a year ago.

Although its price has dipped substantially, MPS' price-to-earnings (or "P/E") ratio of 22.8x might still make it look like a buy right now compared to the market in India, where around half of the companies have P/E ratios above 28x and even P/E's above 54x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

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With earnings growth that's superior to most other companies of late, MPS has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

Check out our latest analysis for MPS

If you'd like to see what analysts are forecasting going forward, you should check out our free report on MPS.

Does Growth Match The Low P/E?

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

If we review the last year of earnings growth, the company posted a terrific increase of 38%. The strong recent performance means it was also able to grow EPS by 91% in total over the last three years. So we can start by confirming that the company has done a great job of growing earnings over that time.

Turning to the outlook, the next year should generate growth of 8.6% as estimated by the lone analyst watching the company. That's shaping up to be materially lower than the 25% growth forecast for the broader market.

In light of this, it's understandable that MPS' P/E sits below the majority of other companies. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.

The Final Word

MPS' recently weak share price has pulled its P/E below most other companies. 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 MPS maintains its low P/E on the weakness of its forecast growth being lower than the wider market, 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 these conditions improve, they will continue to form a barrier for the share price around these levels.

Don't forget that there may be other risks. For instance, we've identified 1 warning sign for MPS that you should be aware of.

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