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Wall Street JournalUnpleasant Surprises Could Be In Store For Reliance Industries Limited's (NSE:RELIANCE) Shares
It's not a stretch to say that Reliance Industries Limited's (NSE:RELIANCE) price-to-earnings (or "P/E") ratio of 25.7x right now seems quite "middle-of-the-road" compared to the market in India, where the median P/E ratio is around 26x. Although, it's not wise to simply ignore the P/E without explanation as investors may be disregarding a distinct opportunity or a costly mistake.
Reliance Industries certainly has been doing a good job lately as it's been growing earnings more than most other companies. One possibility is that the P/E is moderate because investors think this strong earnings performance might be about to tail off. 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 not quite in favour.
See our latest analysis for Reliance Industries
What Are Growth Metrics Telling Us About The P/E?
Reliance Industries' P/E ratio would be typical for a company that's only expected to deliver moderate growth, and importantly, perform in line with the market.
Retrospectively, the last year delivered an exceptional 22% gain to the company's bottom line. The latest three year period has also seen an excellent 30% overall rise in EPS, aided by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.
Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 7.1% per annum over the next three years. With the market predicted to deliver 20% growth each year, the company is positioned for a weaker earnings result.
With this information, we find it interesting that Reliance Industries is trading at a fairly similar P/E to the market. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.
The Key Takeaway
Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.
Our examination of Reliance Industries' analyst forecasts revealed that its inferior earnings outlook 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 aren't likely to support a more positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.
A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Reliance Industries with six simple checks.
It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).
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.