Shares of Coastal Corporation Limited (NSE: COASTPP) may have run too fast too soon
With a price/earnings ratio (or “P/E”) of 27.3x Coastal Society Limited (NSE:COASTPP) may be sending bearish signals at this time, given that almost half of all companies in India have P/E ratios below 21x and even P/E below 11x is not unusual. Although it is not wise to take the P/E at face value as there may be an explanation why it is high.
For example, consider that Coastal’s financial performance has been poor lately as its profits have declined. One possibility is that the P/E is high because investors believe the company will still do enough to outperform the market in the near future. You really hope so, otherwise you pay a pretty high price for no particular reason.
While there are no analyst estimates available for Coastal, take a look at this free data-rich visualization to see how the business is doing on profit, revenue and cash flow.
Does the growth match the high P/E?
The only time you’d be really comfortable seeing a P/E as high as Coastal’s is when the company’s growth is on track to outpace the market.
If we review the last year of earnings, the company’s earnings fell a disheartening 19%. The past three years don’t look good either, as the company has reduced EPS by a total of 65%. As a result, shareholders would have been disappointed with medium-term earnings growth rates.
Unlike the company, the rest of the market is expected to grow 20% over the next year, which really puts the company’s recent decline in mid-term earnings into perspective.
In light of this, it is alarming that Coastal’s P/E sits above the majority of other companies. It seems most investors are ignoring the recent weak growth rate and hoping for a turnaround in the company’s business prospects. Only the most daring would assume that these prices are sustainable, as the continuation of recent earnings trends should weigh heavily on the stock price going forward.
The last word
As a general rule, we prefer to limit the use of the price/earnings ratio to establishing what the market thinks of the overall health of a company.
Our review of Coastal revealed that its mid-term earnings decline is not impacting its high P/E as much as we would have expected, given that the market is set to grow. Right now, we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to sustain such positive sentiment for long. Unless recent medium-term conditions improve significantly, it is very difficult to accept these prices as reasonable.
It is always necessary to consider the ubiquitous spectrum of investment risk. We have identified 6 warning signs with Coastal (at least 3 that should not be ignored), and understanding them should be part of your investment process.
It’s important to be sure to research a great company, not just the first idea you come across. So take a look at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20x).
Valuation is complex, but we help make it simple.
Find out if Coastal is potentially overvalued or undervalued by viewing our full analysis, which includes fair value estimates, risks and warnings, dividends, insider trading and financial health.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.