HFCL Limited's (NSE:HFCL) Shares Climb 29% But Its Business Is Yet to Catch Up

Despite an already strong run, HFCL Limited (NSE:HFCL) shares have been powering on, with a gain of 29% in the last thirty days. The annual gain comes to 111% following the latest surge, making investors sit up and take notice.

Since its price has surged higher, HFCL may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 56.3x, since almost half of all companies in India have P/E ratios under 33x and even P/E's lower than 19x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

The earnings growth achieved at HFCL over the last year would be more than acceptable for most companies. It might be that many expect the respectable earnings performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. If not, then existing shareholders may be a little nervous about the viability of the share price.

Check out our latest analysis for HFCL

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

Is There Enough Growth For HFCL?

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

Taking a look back first, we see that the company managed to grow earnings per share by a handy 13% last year. EPS has also lifted 8.1% in aggregate from three years ago, partly thanks to the last 12 months of growth. So we can start by confirming that the company has actually done a good job of growing earnings over that time.

Comparing that to the market, which is predicted to deliver 26% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

In light of this, it's alarming that HFCL's P/E sits above the majority of other companies. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with recent growth rates.

What We Can Learn From HFCL's P/E?

Shares in HFCL have built up some good momentum lately, which has really inflated its P/E. 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 HFCL currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. When we see weak earnings with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You need to take note of risks, for example - HFCL has 2 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.