Amrutanjan Health Care (NSE:AMRUTANJAN) shares have continued recent momentum with a 33% gain in the last month alone. That brought the twelve month gain to a very sharp 80%.
Assuming no other changes, a sharply higher share price makes a stock less attractive to potential buyers. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. The implication here is that deep value investors might steer clear when expectations of a company are too high. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.
Does Amrutanjan Health Care Have A Relatively High Or Low P/E For Its Industry?
Amrutanjan Health Care's P/E of 51.12 indicates some degree of optimism towards the stock. As you can see below, Amrutanjan Health Care has a much higher P/E than the average company (16.1) in the pharmaceuticals industry.
That means that the market expects Amrutanjan Health Care will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
How Growth Rates Impact P/E Ratios
Probably the most important factor in determining what P/E a company trades on is the earnings growth. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
It's nice to see that Amrutanjan Health Care grew EPS by a stonking 27% in the last year. And earnings per share have improved by 16% annually, over the last five years. I'd therefore be a little surprised if its P/E ratio was not relatively high.
Remember: P/E Ratios Don't Consider The Balance Sheet
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. So it won't reflect the advantage of cash, or disadvantage of debt. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
Amrutanjan Health Care's Balance Sheet
The extra options and safety that comes with Amrutanjan Health Care's ₹862m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Verdict On Amrutanjan Health Care's P/E Ratio
With a P/E ratio of 51.1, Amrutanjan Health Care is expected to grow earnings very strongly in the years to come. Its net cash position supports a higher P/E ratio, as does its solid recent earnings growth. So it is not surprising the market is probably extrapolating recent growth well into the future, reflected in the relatively high P/E ratio. What we know for sure is that investors have become much more excited about Amrutanjan Health Care recently, since they have pushed its P/E ratio from 38.4 to 51.1 over the last month. If you like to buy stocks that have recently impressed the market, then this one might be a candidate; but if you prefer to invest when there is 'blood in the streets', then you may feel the opportunity has passed.
Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
You might be able to find a better buy than Amrutanjan Health Care. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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