Subdued Growth No Barrier To TOMY Company, Ltd.'s (TSE:7867) Price

When close to half the companies in Japan have price-to-earnings ratios (or "P/E's") below 14x, you may consider TOMY Company, Ltd. (TSE:7867) as a stock to potentially avoid with its 17x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

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TOMY Company certainly has been doing a good job lately as it's been growing earnings more than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.

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How Is TOMY Company's Growth Trending?

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

If we review the last year of earnings growth, the company posted a terrific increase of 66%. Pleasingly, EPS has also lifted 162% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 7.2% each year as estimated by the three analysts watching the company. With the market predicted to deliver 9.6% growth each year, the company is positioned for a weaker earnings result.

With this information, we find it concerning that TOMY Company is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Key Takeaway

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.

Our examination of TOMY Company's analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Don't forget that there may be other risks. For instance, we've identified 1 warning sign for TOMY Company that you should be aware of.

If you're unsure about the strength of TOMY Company'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.