Seihyo Co., Ltd.'s (TSE:2872) Shares Climb 31% But Its Business Is Yet to Catch Up

Seihyo Co., Ltd. (TSE:2872) shareholders would be excited to see that the share price has had a great month, posting a 31% gain and recovering from prior weakness. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 46% over that time.

Since its price has surged higher, Seihyo may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 51x, since almost half of all companies in Japan have P/E ratios under 14x and even P/E's lower than 9x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

For example, consider that Seihyo's financial performance has been poor lately as its earnings have been in decline. 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 Seihyo

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 Seihyo's earnings, revenue and cash flow.

Is There Enough Growth For Seihyo?

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

Retrospectively, the last year delivered a frustrating 1.2% decrease to the company's bottom line. This has soured the latest three-year period, which nevertheless managed to deliver a decent 14% overall rise in EPS. 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 Seihyo's P/E sits above the majority of other companies. 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. 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 Bottom Line On Seihyo's P/E

Seihyo's P/E is flying high just like its stock has during the last month. 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 Seihyo currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. 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. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Before you settle on your opinion, we've discovered 3 warning signs for Seihyo (1 is concerning!) that you should be aware of.

If these risks are making you reconsider your opinion on Seihyo, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.