What Knowledge Marine & Engineering Works Limited's (NSE:KMEW) 25% Share Price Gain Is Not Telling You

Despite an already strong run, Knowledge Marine & Engineering Works Limited (NSE:KMEW) shares have been powering on, with a gain of 25% in the last thirty days. Longer-term shareholders would be thankful for the recovery in the share price since it's now virtually flat for the year after the recent bounce.

Since its price has surged higher, Knowledge Marine & Engineering Works' price-to-earnings (or "P/E") ratio of 59.8x 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 27x and even P/E's below 15x 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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Recent times have been quite advantageous for Knowledge Marine & Engineering Works 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. If not, then existing shareholders might be a little nervous about the viability of the share price.

Check out our latest analysis for Knowledge Marine & Engineering Works

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Knowledge Marine & Engineering Works' earnings, revenue and cash flow.

Does Growth Match The High P/E?

In order to justify its P/E ratio, Knowledge Marine & Engineering Works would need to produce outstanding growth well in excess of the market.

Retrospectively, the last year delivered an exceptional 37% gain to the company's bottom line. The strong recent performance means it was also able to grow EPS by 52% 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.

Comparing that to the market, which is predicted to deliver 24% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

With this information, we find it concerning that Knowledge Marine & Engineering Works is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. 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.

The Key Takeaway

Knowledge Marine & Engineering Works' P/E is flying high just like its stock has during the last month. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Knowledge Marine & Engineering Works 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. 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.

Having said that, be aware Knowledge Marine & Engineering Works is showing 2 warning signs in our investment analysis, and 1 of those is a bit concerning.

If these risks are making you reconsider your opinion on Knowledge Marine & Engineering Works, 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.