More Unpleasant Surprises Could Be In Store For NITTAN Corporation's (TSE:6493) Shares After Tumbling 32%

The NITTAN Corporation (TSE:6493) share price has fared very poorly over the last month, falling by a substantial 32%. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 29% share price drop.

Although its price has dipped substantially, NITTAN's price-to-earnings (or "P/E") ratio of 36.3x might still make it look like a strong sell right now compared to the market in Japan, where around half of the companies have P/E ratios below 13x and even P/E's below 9x are quite common. 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.

For example, consider that NITTAN's financial performance has been poor lately as its earnings have been in decline. It might be that many expect the company to still outplay most other companies over the coming period, 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.

View our latest analysis for NITTAN

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on NITTAN's earnings, revenue and cash flow.

What Are Growth Metrics Telling Us About The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like NITTAN's to be considered reasonable.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 71%. The last three years don't look nice either as the company has shrunk EPS by 90% in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Comparing that to the market, which is predicted to deliver 9.8% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that NITTAN is trading at a P/E higher than the market. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

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

Even after such a strong price drop, NITTAN's P/E still exceeds the rest of the market significantly. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

We've established that NITTAN currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

We don't want to rain on the parade too much, but we did also find 4 warning signs for NITTAN that you need to be mindful of.

Of course, you might also be able to find a better stock than NITTAN. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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