Subdued Growth No Barrier To Hammond Power Solutions Inc. (TSE:HPS.A) With Shares Advancing 26%

Hammond Power Solutions Inc. (TSE:HPS.A) shares have continued their recent momentum with a 26% gain in the last month alone. The last month tops off a massive increase of 276% in the last year.

After such a large jump in price, Hammond Power Solutions may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 27.2x, since almost half of all companies in Canada have P/E ratios under 13x and even P/E's lower than 7x 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 lofty.

Hammond Power Solutions certainly has been doing a good job lately as its earnings growth has been positive while most other companies have been seeing their earnings go backwards. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Hammond Power Solutions

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Hammond Power Solutions.

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as steep as Hammond Power Solutions' is when the company's growth is on track to outshine the market decidedly.

Taking a look back first, we see that the company grew earnings per share by an impressive 41% last year. Pleasingly, EPS has also lifted 345% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 4.6% per year as estimated by the dual analysts watching the company. That's shaping up to be materially lower than the 9.0% per year growth forecast for the broader market.

With this information, we find it concerning that Hammond Power Solutions is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Final Word

The strong share price surge has got Hammond Power Solutions' P/E rushing to great heights as well. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Our examination of Hammond Power Solutions' analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Before you settle on your opinion, we've discovered 1 warning sign for Hammond Power Solutions that you should be aware of.

You might be able to find a better investment than Hammond Power Solutions. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.