With a price-to-earnings (or "P/E") ratio of 3x South Ocean Holdings Limited (JSE:SOH) may be sending very bullish signals at the moment, given that almost half of all companies in South Africa have P/E ratios greater than 9x and even P/E's higher than 13x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so limited.
We'd have to say that with no tangible growth over the last year, South Ocean Holdings' earnings have been unimpressive. One possibility is that the P/E is low because investors think this benign earnings growth rate will likely underperform the broader market in the near future. If not, then existing shareholders may be feeling optimistic about the future direction of the share price.
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Does Growth Match The Low P/E?
In order to justify its P/E ratio, South Ocean Holdings would need to produce anemic growth that's substantially trailing the market.
Taking a look back first, we see that there was hardly any earnings per share growth to speak of for the company over the past year. However, a few strong years before that means that it was still able to grow EPS by an impressive 159% in total over the last three years. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.
This is in contrast to the rest of the market, which is expected to grow by 15% over the next year, materially lower than the company's recent medium-term annualised growth rates.
In light of this, it's peculiar that South Ocean Holdings' P/E sits below the majority of other companies. Apparently some shareholders believe the recent performance has exceeded its limits and have been accepting significantly lower selling prices.
The Final Word
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.
Our examination of South Ocean Holdings revealed its three-year earnings trends aren't contributing to its P/E anywhere near as much as we would have predicted, given they look better than current market expectations. There could be some major unobserved threats to earnings preventing the P/E ratio from matching this positive performance. It appears many are indeed anticipating earnings instability, because the persistence of these recent medium-term conditions would normally provide a boost to the share price.