The Yokohama Rubber Company, Limited (TSE:5101) Soars 31% But It's A Story Of Risk Vs Reward

Despite an already strong run, The Yokohama Rubber Company, Limited (TSE:5101) shares have been powering on, with a gain of 31% in the last thirty days. The last 30 days bring the annual gain to a very sharp 29%.

In spite of the firm bounce in price, Yokohama Rubber Company's price-to-earnings (or "P/E") ratio of 11.1x might still make it look like a buy right now compared to the market in Japan, where around half of the companies have P/E ratios above 14x and even P/E's above 22x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

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While the market has experienced earnings growth lately, Yokohama Rubber Company's earnings have gone into reverse gear, which is not great. The P/E is probably low because investors think this poor earnings performance isn't going to get any better. If this is the case, then existing shareholders will probably struggle to get excited about the future direction of the share price.

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Does Growth Match The Low P/E?

There's an inherent assumption that a company should underperform the market for P/E ratios like Yokohama Rubber Company's to be considered reasonable.

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 17%. Still, the latest three year period has seen an excellent 56% overall rise in EPS, in spite of its unsatisfying short-term performance. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been more than adequate for the company.

Looking ahead now, EPS is anticipated to climb by 17% each year during the coming three years according to the ten analysts following the company. With the market only predicted to deliver 8.9% each year, the company is positioned for a stronger earnings result.

In light of this, it's peculiar that Yokohama Rubber Company's P/E sits below the majority of other companies. Apparently some shareholders are doubtful of the forecasts and have been accepting significantly lower selling prices.

The Key Takeaway

Despite Yokohama Rubber Company's shares building up a head of steam, its P/E still lags most other companies. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

Our examination of Yokohama Rubber Company's analyst forecasts revealed that its superior earnings outlook isn't contributing to its P/E anywhere near as much as we would have predicted. There could be some major unobserved threats to earnings preventing the P/E ratio from matching the positive outlook. It appears many are indeed anticipating earnings instability, because these conditions should normally provide a boost to the share price.

And what about other risks? Every company has them, and we've spotted 2 warning signs for Yokohama Rubber Company (of which 1 is concerning!) you should know about.

You might be able to find a better investment than Yokohama Rubber Company. 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.