RPG Life Sciences (NSE:RPGLIFE) shares have continued recent momentum with a 30% gain in the last month alone. The bad news is that even after that recovery shareholders are still underwater by about 3.3% for the full year.
All else being equal, a sharp share price increase should make a stock less attractive to potential investors. 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. One way to gauge market expectations of a stock 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 RPG Life Sciences Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 24.33 that there is some investor optimism about RPG Life Sciences. The image below shows that RPG Life Sciences has a higher P/E than the average (15.8) P/E for companies in the pharmaceuticals industry.
Its relatively high P/E ratio indicates that RPG Life Sciences shareholders think it will perform better than other companies in its industry classification. The market is optimistic about the future, but that doesn't guarantee future growth. So further research is always essential. I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
When earnings fall, the 'E' decreases, over time. That means unless the share price falls, the P/E will increase in a few years. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
RPG Life Sciences increased earnings per share by an impressive 17% over the last twelve months. In contrast, EPS has decreased by 3.7%, annually, over 3 years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn't take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
Is Debt Impacting RPG Life Sciences's P/E?
Net debt totals just 9.5% of RPG Life Sciences's market cap. It would probably trade on a higher P/E ratio if it had a lot of cash, but I doubt it is having a big impact.
The Bottom Line On RPG Life Sciences's P/E Ratio
RPG Life Sciences trades on a P/E ratio of 24.3, which is above its market average of 13.4. The company is not overly constrained by its modest debt levels, and its recent EPS growth very solid. So on this analysis it seems reasonable that its P/E ratio is above average. What is very clear is that the market has become significantly more optimistic about RPG Life Sciences over the last month, with the P/E ratio rising from 18.7 back then to 24.3 today. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. We don't have analyst forecasts, but shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.
Of course you might be able to find a better stock than RPG Life Sciences. So you may wish to see this free collection of other companies that have grown earnings strongly.
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If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.