Toyoda Gosei Co., Ltd. (TSE:7282) Looks Inexpensive But Perhaps Not Attractive Enough

Toyoda Gosei Co., Ltd.'s (TSE:7282) price-to-earnings (or "P/E") ratio of 6.3x might make it look like a strong 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. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

With earnings growth that's superior to most other companies of late, Toyoda Gosei has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

View our latest analysis for Toyoda Gosei

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Does Growth Match The Low P/E?

The only time you'd be truly comfortable seeing a P/E as depressed as Toyoda Gosei's is when the company's growth is on track to lag the market decidedly.

Taking a look back first, we see that the company grew earnings per share by an impressive 109% last year. As a result, it also grew EPS by 8.4% in total over the last three years. Accordingly, shareholders would have probably been satisfied with the medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 0.3% per annum as estimated by the nine analysts watching the company. That's shaping up to be materially lower than the 9.3% per annum growth forecast for the broader market.

With this information, we can see why Toyoda Gosei is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.

The Key Takeaway

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Toyoda Gosei maintains its low P/E on the weakness of its forecast growth being lower than the wider market, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Toyoda Gosei (1 shouldn't be ignored) you should be aware of.

Of course, you might also be able to find a better stock than Toyoda Gosei. 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.