Mitsubishi Kakoki Kaisha, Ltd.'s (TSE:6331) 26% Share Price Surge Not Quite Adding Up

Despite an already strong run, Mitsubishi Kakoki Kaisha, Ltd. (TSE:6331) shares have been powering on, with a gain of 26% in the last thirty days. The annual gain comes to 194% following the latest surge, making investors sit up and take notice.

Even after such a large jump in price, you could still be forgiven for feeling indifferent about Mitsubishi Kakoki Kaisha's P/E ratio of 15.6x, since the median price-to-earnings (or "P/E") ratio in Japan is also close to 15x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

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While the market has experienced earnings growth lately, Mitsubishi Kakoki Kaisha's earnings have gone into reverse gear, which is not great. One possibility is that the P/E is moderate because investors think this poor earnings performance will turn around. You'd really hope so, otherwise you're paying a relatively elevated price for a company with this sort of growth profile.

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Does Growth Match The P/E?

The only time you'd be comfortable seeing a P/E like Mitsubishi Kakoki Kaisha's is when the company's growth is tracking the market closely.

Retrospectively, the last year delivered a frustrating 13% decrease to the company's bottom line. Even so, admirably EPS has lifted 98% in aggregate from three years ago, notwithstanding the last 12 months. 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.

Shifting to the future, estimates from the sole analyst covering the company suggest earnings should grow by 7.3% each year over the next three years. With the market predicted to deliver 9.6% growth per annum, the company is positioned for a weaker earnings result.

In light of this, it's curious that Mitsubishi Kakoki Kaisha's P/E sits in line with the majority of other companies. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Bottom Line On Mitsubishi Kakoki Kaisha's P/E

Mitsubishi Kakoki Kaisha appears to be back in favour with a solid price jump getting its P/E back in line with most other companies. 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 Mitsubishi Kakoki Kaisha currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the moderate P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

Before you settle on your opinion, we've discovered 2 warning signs for Mitsubishi Kakoki Kaisha (1 is a bit unpleasant!) that you should be aware of.

If you're unsure about the strength of Mitsubishi Kakoki Kaisha's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.