Zuari Agro Chemicals Limited's (NSE:ZUARI) Share Price Boosted 28% But Its Business Prospects Need A Lift Too

The Zuari Agro Chemicals Limited (NSE:ZUARI) share price has done very well over the last month, posting an excellent gain of 28%. The last 30 days bring the annual gain to a very sharp 52%.

In spite of the firm bounce in price, given about half the companies in India have price-to-earnings ratios (or "P/E's") above 26x, you may still consider Zuari Agro Chemicals as a highly attractive investment with its 5.6x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.

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Zuari Agro Chemicals certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. One possibility is that the P/E is low because investors think this strong earnings growth might actually underperform the broader market in the near future. If that doesn't eventuate, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

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Does Growth Match The Low P/E?

Zuari Agro Chemicals' P/E ratio would be typical for a company that's expected to deliver very poor growth or even falling earnings, and importantly, perform much worse than the market.

Retrospectively, the last year delivered an exceptional 91% gain to the company's bottom line. Still, incredibly EPS has fallen 76% in total from three years ago, which is quite disappointing. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

In contrast to the company, the rest of the market is expected to grow by 25% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's understandable that Zuari Agro Chemicals' P/E would sit below the majority of other companies. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as recent earnings trends are already weighing down the shares.

What We Can Learn From Zuari Agro Chemicals' P/E?

Shares in Zuari Agro Chemicals are going to need a lot more upward momentum to get the company's P/E out of its slump. 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.

We've established that Zuari Agro Chemicals maintains its low P/E on the weakness of its sliding earnings over the medium-term, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. If recent medium-term earnings trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

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If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.