What MODEC, Inc.'s (TSE:6269) 28% Share Price Gain Is Not Telling You

MODEC, Inc. (TSE:6269) shares have continued their recent momentum with a 28% gain in the last month alone. The last month tops off a massive increase of 202% in the last year.

Since its price has surged higher, MODEC may be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 19.1x, since almost half of all companies in Japan have P/E ratios under 14x and even P/E's lower than 10x are not unusual. 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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With earnings growth that's superior to most other companies of late, MODEC has been doing relatively well. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for MODEC

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What Are Growth Metrics Telling Us About The High P/E?

The only time you'd be truly comfortable seeing a P/E as high as MODEC's is when the company's growth is on track to outshine the market.

If we review the last year of earnings growth, the company posted a terrific increase of 19%. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Shifting to the future, estimates from the three analysts covering the company suggest earnings should grow by 0.7% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 9.6% per annum, which is noticeably more attractive.

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

The large bounce in MODEC's shares has lifted the company's P/E to a fairly high level. 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 MODEC'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. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

And what about other risks? Every company has them, and we've spotted 1 warning sign for MODEC you should know about.

You might be able to find a better investment than MODEC. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.