Kumba Iron Ore Limited's (JSE:KIO) Business Is Yet to Catch Up With Its Share Price

With a median price-to-earnings (or "P/E") ratio of close to 8x in South Africa, you could be forgiven for feeling indifferent about Kumba Iron Ore Limited's (JSE:KIO) P/E ratio of 6.5x. 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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While the market has experienced earnings growth lately, Kumba Iron Ore's earnings have gone into reverse gear, which is not great. One possibility is that the P/E is moderate because investors think this poor earnings performance will turn around. If not, then existing shareholders may be a little nervous about the viability of the share price.

Check out our latest analysis for Kumba Iron Ore

Keen to find out how analysts think Kumba Iron Ore's future stacks up against the industry? In that case, our free report is a great place to start.

Is There Some Growth For Kumba Iron Ore?

In order to justify its P/E ratio, Kumba Iron Ore would need to produce growth that's similar to the market.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 35%. The last three years don't look nice either as the company has shrunk EPS by 56% in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Looking ahead now, EPS is anticipated to slump, contracting by 4.5% per annum during the coming three years according to the nine analysts following the company. Meanwhile, the broader market is forecast to expand by 15% each year, which paints a poor picture.

In light of this, it's somewhat alarming that Kumba Iron Ore's P/E sits in line with the majority of other companies. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh on the share price eventually.

The Final Word

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.

Our examination of Kumba Iron Ore's analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its P/E as much as we would have predicted. Right now we are uncomfortable with the P/E as the predicted future earnings are unlikely to support a more positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Having said that, be aware Kumba Iron Ore is showing 2 warning signs in our investment analysis, and 1 of those is a bit unpleasant.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on 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.