Sugimoto & Co., Ltd.'s (TSE:9932) 28% Price Boost Is Out Of Tune With Earnings

Sugimoto & Co., Ltd. (TSE:9932) shares have had a really impressive month, gaining 28% after a shaky period beforehand. The last 30 days bring the annual gain to a very sharp 26%.

Following the firm bounce in price, Sugimoto's price-to-earnings (or "P/E") ratio of 16x might make it look like a 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. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

As an illustration, earnings have deteriorated at Sugimoto over the last year, which is not ideal at all. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. If not, then existing shareholders may be quite nervous about the viability of the share price.

View our latest analysis for Sugimoto

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 Sugimoto's earnings, revenue and cash flow.

Does Growth Match The High P/E?

In order to justify its P/E ratio, Sugimoto would need to produce impressive growth in excess of the market.

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 16%. That put a dampener on the good run it was having over the longer-term as its three-year EPS growth is still a noteworthy 5.6% in total. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of earnings growth.

Comparing that to the market, which is predicted to deliver 11% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

In light of this, it's alarming that Sugimoto's P/E sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Final Word

Sugimoto's P/E is getting right up there since its shares have risen strongly. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Our examination of Sugimoto revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. Right now we are increasingly uncomfortable with the high P/E as this earnings performance isn't likely to support such positive sentiment for long. 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.

Before you take the next step, you should know about the 1 warning sign for Sugimoto that we have uncovered.

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