Engenco Limited's (ASX:EGN) price-to-earnings (or "P/E") ratio of 12.6x might make it look like a buy right now compared to the market in Australia, where around half of the companies have P/E ratios above 21x and even P/E's above 39x are quite common. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.
For instance, Engenco's receding earnings in recent times would have to be some food for thought. One possibility is that the P/E is low because investors think the company won't do enough to avoid underperforming the broader market in the near future. However, if this doesn't eventuate then existing shareholders may be feeling optimistic about the future direction of the share price.
We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Engenco's earnings, revenue and cash flow.
Is There Any Growth For Engenco?
In order to justify its P/E ratio, Engenco would need to produce sluggish growth that's trailing the market.
Retrospectively, the last year delivered a frustrating 5.6% decrease to the company's bottom line. However, a few very strong years before that means that it was still able to grow EPS by an impressive 56% in total over the last three years. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been more than adequate for the company.
Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 21% shows it's noticeably less attractive on an annualised basis.
With this information, we can see why Engenco is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on to something they believe will continue to trail the bourse.
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.
We've established that Engenco maintains its low P/E on the weakness of its recentthree-year growth being lower than the wider market forecast, as expected. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. If recent medium-term earnings trends continue, it's hard to see the share price rising strongly in the near future under these circumstances.
You should always think about risks. Case in point, we've spotted 1 warning sign for Engenco you should be aware of.
If these risks are making you reconsider your opinion on Engenco, explore our interactive list of high quality stocks to get an idea of what else is out there.
This article by Simply Wall St is general in nature. 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.
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