Optimistic Investors Push Aarey Drugs & Pharmaceuticals Limited (NSE:AAREYDRUGS) Shares Up 25% But Growth Is Lacking

Despite an already strong run, Aarey Drugs & Pharmaceuticals Limited (NSE:AAREYDRUGS) shares have been powering on, with a gain of 25% in the last thirty days. Looking back a bit further, it's encouraging to see the stock is up 44% in the last year.

Following the firm bounce in price, Aarey Drugs & Pharmaceuticals' price-to-earnings (or "P/E") ratio of 46.9x might make it look like a strong sell right now compared to the market in India, where around half of the companies have P/E ratios below 29x and even P/E's below 16x are quite common. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

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As an illustration, earnings have deteriorated at Aarey Drugs & Pharmaceuticals over the last year, which is not ideal at all. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/E from collapsing. If not, then existing shareholders may be quite nervous about the viability of the share price.

View our latest analysis for Aarey Drugs & Pharmaceuticals

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Aarey Drugs & Pharmaceuticals will help you shine a light on its historical performance.

Is There Enough Growth For Aarey Drugs & Pharmaceuticals?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Aarey Drugs & Pharmaceuticals' to be considered reasonable.

Retrospectively, the last year delivered a frustrating 22% decrease to the company's bottom line. This means it has also seen a slide in earnings over the longer-term as EPS is down 47% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Comparing that to the market, which is predicted to deliver 23% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Aarey Drugs & Pharmaceuticals is trading at a P/E higher than the market. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

The Key Takeaway

Shares in Aarey Drugs & Pharmaceuticals have built up some good momentum lately, which has really inflated its P/E. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

Our examination of Aarey Drugs & Pharmaceuticals revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. 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 3 warning signs we've spotted with Aarey Drugs & Pharmaceuticals (including 1 which makes us a bit uncomfortable).

Of course, you might also be able to find a better stock than Aarey Drugs & Pharmaceuticals. 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.