As many as 104 companies are trading at a price to earnings (P/E) of over 50 while nine companies trade above 100 times, a report by Kotak Institutional Equities (KIE) said. A company with a 100 times PE would need 83,000 times earnings in the 100th year to justify its current multiple. Many of these high PE stocks belong to traditional sectors and could face significant disruption risks, the report said.
Cautioning investors on the “unsustainable” valuations of Indian stocks, KIE has pointed out that valuation methodologies have little or no correlation to fundamentals. Stock prices, strategists at the brokerage said, have been driven up to stratospheric levels thanks to a sense of complacency and an obsession with narratives.
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This, it noted, makes high multiples acceptable regardless of how “outrageous” the implied math for underlying parameters becomes at higher multiples. The number of companies which are richly valued is high even if one excludes young companies and sectors.
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As per KIE’s discounted cash flow (DCF) model, such companies will need to grow at very steep rate over a sustained period to justify their high multiples. “We note that many sectors and stocks enjoy very high profitability and returns, which are unlikely to last beyond the next 5-10 years, as forces of disruption have strengthened across sectors,” they wrote on Tuesday.
Further to justify the valuations, companies will need to grow at sharper and higher rates in the short term.
“A 100X P/E company, which may be in the growth phase over the next 40 years, will need to report an earnings CAGR of 20% over the next 20 years and 9% CAGR over the subsequent 20, according to our simplistic
DCF model,” the strategists observed.
The implied market size, they noted, would need to be even higher in case profitability were to decline from current elevated levels. “The latter is extremely likely, the forms unlikely,” they said.