What ChemoMetec A/S' (CPH:CHEMM) 27% Share Price Gain Is Not Telling You

The ChemoMetec A/S (CPH:CHEMM) share price has done very well over the last month, posting an excellent gain of 27%. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 15% over that time.

After such a large jump in price, given close to half the companies in Denmark have price-to-earnings ratios (or "P/E's") below 15x, you may consider ChemoMetec as a stock to avoid entirely with its 46.8x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

ChemoMetec hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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Does Growth Match The High P/E?

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

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 20%. However, a few very strong years before that means that it was still able to grow EPS by an impressive 94% in total over the last three years. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.

Looking ahead now, EPS is anticipated to climb by 8.4% each year during the coming three years according to the three analysts following the company. With the market predicted to deliver 17% growth each year, the company is positioned for a weaker earnings result.

With this information, we find it concerning that ChemoMetec is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

What We Can Learn From ChemoMetec's P/E?

The strong share price surge has got ChemoMetec's 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.

We've established that ChemoMetec currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for ChemoMetec that you should be aware of.

If these risks are making you reconsider your opinion on ChemoMetec, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com