There wouldn't be many who think First Resources Limited's (SGX:EB5) price-to-earnings (or "P/E") ratio of 10.9x is worth a mention when the median P/E in Singapore is similar at about 12x. Although, it's not wise to simply ignore the P/E without explanation as investors may be disregarding a distinct opportunity or a costly mistake.
First Resources has been struggling lately as its earnings have declined faster than most other companies. It might be that many expect the dismal earnings performance to revert back to market averages soon, which has kept the P/E from falling. If you still like the company, you'd want its earnings trajectory to turn around before making any decisions. Or at the very least, you'd be hoping it doesn't keep underperforming if your plan is to pick up some stock while it's not in favour.
Does Growth Match The P/E?
First Resources' P/E ratio would be typical for a company that's only expected to deliver moderate growth, and importantly, perform in line with the market.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 55%. However, a few very strong years before that means that it was still able to grow EPS by an impressive 48% in total over the last three years. Accordingly, while they would have preferred to keep the run going, shareholders would probably welcome the medium-term rates of earnings growth.
Turning to the outlook, the next three years should generate growth of 6.5% per annum as estimated by the eight analysts watching the company. That's shaping up to be materially lower than the 8.5% per annum growth forecast for the broader market.
With this information, we find it interesting that First Resources is trading at a fairly similar P/E to the market. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.
The Key Takeaway
It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.
We've established that First Resources currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.
Plus, you should also learn about these 2 warning signs we've spotted with First Resources.
Of course, you might also be able to find a better stock than First Resources. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.
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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.