There's Reason For Concern Over New Constructor's Network Co., Ltd.'s (TSE:7057) Massive 25% Price Jump

New Constructor's Network Co., Ltd. (TSE:7057) shares have continued their recent momentum with a 25% gain in the last month alone. Looking back a bit further, it's encouraging to see the stock is up 29% in the last year.

Since its price has surged higher, given close to half the companies in Japan have price-to-earnings ratios (or "P/E's") below 13x, you may consider New Constructor's Network as a stock to avoid entirely with its 52x 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.

As an illustration, earnings have deteriorated at New Constructor's Network over the last year, which is not ideal at all. 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. If not, then existing shareholders may be quite nervous about the viability of the share price.

See our latest analysis for New Constructor's Network

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on New Constructor's Network will help you shine a light on its historical performance.

Does Growth Match The High P/E?

In order to justify its P/E ratio, New Constructor's Network would need to produce outstanding growth well in excess of the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 46%. As a result, earnings from three years ago have also fallen 69% overall. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 13% shows it's an unpleasant look.

With this information, we find it concerning that New Constructor's Network is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. 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.

The Key Takeaway

Shares in New Constructor's Network have built up some good momentum lately, which has really inflated its P/E. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

Our examination of New Constructor's Network revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. 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. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 6 warning signs with New Constructor's Network (at least 1 which is a bit concerning), and understanding them should be part of your investment process.

If you're unsure about the strength of New Constructor's Network'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.