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Simonds Group Limited's (ASX:SIO) price-to-earnings (or "P/E") ratio of 5.5x might make it look like a strong buy right now compared to the market in Australia, where around half of the companies have P/E ratios above 17x and even P/E's above 32x are quite common. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.
For instance, Simonds Group's receding earnings in recent times would have to be some food for thought. It might be that many expect the disappointing earnings performance to continue or accelerate, which has repressed the P/E. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.
Check out our latest analysis for Simonds Group
Although there are no analyst estimates available for Simonds Group, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.
How Is Simonds Group's Growth Trending?
There's an inherent assumption that a company should far underperform the market for P/E ratios like Simonds Group's to be considered reasonable.
Retrospectively, the last year delivered a frustrating 8.6% decrease to the company's bottom line. This has erased any of its gains during the last three years, with practically no change in EPS being achieved in total. Therefore, it's fair to say that earnings growth has been inconsistent recently for the company.
This is in contrast to the rest of the market, which is expected to grow by 2.9% over the next year, materially higher than the company's recent medium-term annualised growth rates.
In light of this, it's understandable that Simonds Group's P/E sits below the majority of other companies. Apparently many shareholders weren't comfortable holding on to something they believe will continue to trail the bourse.
The Final Word
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 Simonds Group maintains its low P/E on the weakness of its recentthree-year growth being lower than the wider market forecast, 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. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.