Gujarat Gas Limited (NSE:GUJGASLTD) Investors Are Less Pessimistic Than Expected

It's not a stretch to say that Gujarat Gas Limited's (NSE:GUJGASLTD) price-to-earnings (or "P/E") ratio of 25.4x right now seems quite "middle-of-the-road" compared to the market in India, where the median P/E ratio is around 27x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

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Recent times haven't been advantageous for Gujarat Gas as its earnings have been rising slower than most other companies. It might be that many expect the uninspiring earnings performance to strengthen positively, which has kept the P/E from falling. You'd really hope so, otherwise you're paying a relatively elevated price for a company with this sort of growth profile.

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What Are Growth Metrics Telling Us About The P/E?

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

Retrospectively, the last year delivered an exceptional 15% gain to the company's bottom line. The latest three year period has also seen a 6.0% overall rise in EPS, aided extensively by its short-term performance. Accordingly, shareholders would have probably been satisfied with the medium-term rates of earnings growth.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 2.7% over the next year. That's shaping up to be materially lower than the 25% growth forecast for the broader market.

With this information, we find it interesting that Gujarat Gas is trading at a fairly similar P/E to the market. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. Maintaining these prices will be difficult to achieve as this level of earnings growth is likely to weigh down the shares eventually.

The Key Takeaway

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 Gujarat Gas currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Many other vital risk factors can be found on the company's balance sheet. Our free balance sheet analysis for Gujarat Gas with six simple checks will allow you to discover any risks that could be an issue.

If you're unsure about the strength of Gujarat Gas' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.