Torrent Power Limited's (NSE:TORNTPOWER) 28% Price Boost Is Out Of Tune With Earnings

Torrent Power Limited (NSE:TORNTPOWER) shareholders have had their patience rewarded with a 28% share price jump in the last month. The last month tops off a massive increase of 181% in the last year.

After such a large jump in price, given around half the companies in India have price-to-earnings ratios (or "P/E's") below 34x, you may consider Torrent Power as a stock to potentially avoid with its 39.2x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's as high as it is.

Torrent Power could be doing better as it's been growing earnings less than most other companies lately. It might be that many expect the uninspiring earnings performance to recover significantly, which has kept the P/E from collapsing. If not, then existing shareholders may be very nervous about the viability of the share price.

View our latest analysis for Torrent Power

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Torrent Power.

Does Growth Match The High P/E?

Torrent Power's P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

If we review the last year of earnings growth, the company posted a worthy increase of 7.3%. Pleasingly, EPS has also lifted 103% in aggregate from three years ago, partly thanks to the last 12 months of growth. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 11% each year as estimated by the eleven analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 21% per year, which is noticeably more attractive.

With this information, we find it concerning that Torrent Power is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Final Word

Torrent Power's P/E is getting right up there since its shares have risen strongly. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

Our examination of Torrent Power's analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

You always need to take note of risks, for example - Torrent Power has 2 warning signs we think you should be aware of.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com