Kumba Iron Ore Limited's (JSE:KIO) Price Is Right But Growth Is Lacking

Kumba Iron Ore Limited's (JSE:KIO) price-to-earnings (or "P/E") ratio of 6.2x might make it look like a buy right now compared to the market in South Africa, where around half of the companies have P/E ratios above 11x and even P/E's above 16x are quite common. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

Kumba Iron Ore certainly has been doing a good job lately as it's been growing earnings more than most other companies. It might be that many expect the strong earnings performance to degrade substantially, which has repressed the P/E. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

Check out our latest analysis for Kumba Iron Ore

Want the full picture on analyst estimates for the company? Then our free report on Kumba Iron Ore will help you uncover what's on the horizon.

Does Growth Match The Low P/E?

Kumba Iron Ore's P/E ratio would be typical for a company that's only expected to deliver limited growth, and importantly, perform worse than the market.

If we review the last year of earnings growth, the company posted a terrific increase of 55%. However, this wasn't enough as the latest three year period has seen a very unpleasant 46% drop in EPS in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 9.5% per annum as estimated by the ten analysts watching the company. That's not great when the rest of the market is expected to grow by 16% per annum.

In light of this, it's understandable that Kumba Iron Ore's P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.

The Final Word

Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

We've established that Kumba Iron Ore maintains its low P/E on the weakness of its forecast for sliding earnings, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.

Before you take the next step, you should know about the 2 warning signs for Kumba Iron Ore (1 is a bit unpleasant!) that we have uncovered.

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.

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

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.