Risks Still Elevated At These Prices As SMS Pharmaceuticals Limited (NSE:SMSPHARMA) Shares Dive 25%

SMS Pharmaceuticals Limited (NSE:SMSPHARMA) shareholders won't be pleased to see that the share price has had a very rough month, dropping 25% and undoing the prior period's positive performance. The good news is that in the last year, the stock has shone bright like a diamond, gaining 120%.

Even after such a large drop in price, given around half the companies in India have price-to-earnings ratios (or "P/E's") below 32x, you may still consider SMS Pharmaceuticals as a stock to potentially avoid with its 37.4x P/E ratio. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times have been quite advantageous for SMS Pharmaceuticals as its earnings have been rising very briskly. The P/E is probably high because investors think this strong earnings growth will be enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for SMS Pharmaceuticals

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

Does Growth Match The High P/E?

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

Taking a look back first, we see that the company grew earnings per share by an impressive 106% last year. Still, incredibly EPS has fallen 35% in total from three years ago, which is quite disappointing. 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 26% 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 SMS 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. 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

There's still some solid strength behind SMS Pharmaceuticals' P/E, if not its share price lately. 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 SMS Pharmaceuticals 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. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

There are also other vital risk factors to consider and we've discovered 3 warning signs for SMS Pharmaceuticals (1 is concerning!) that you should be aware of before investing here.

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