Pinning Down Japan Tobacco Inc.'s (TSE:2914) P/E Is Difficult Right Now

With a median price-to-earnings (or "P/E") ratio of close to 13x in Japan, you could be forgiven for feeling indifferent about Japan Tobacco Inc.'s (TSE:2914) P/E ratio of 14.3x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

With earnings growth that's inferior to most other companies of late, Japan Tobacco has been relatively sluggish. It might be that many expect the uninspiring earnings performance to strengthen positively, which has kept the P/E from falling. If not, then existing shareholders may be a little nervous about the viability of the share price.

View our latest analysis for Japan Tobacco

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Japan Tobacco.

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

There's an inherent assumption that a company should be matching the market for P/E ratios like Japan Tobacco's to be considered reasonable.

Retrospectively, the last year delivered virtually the same number to the company's bottom line as the year before. Regardless, EPS has managed to lift by a handy 23% in aggregate from three years ago, thanks to the earlier period of growth. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Turning to the outlook, the next three years should generate growth of 8.0% each year as estimated by the ten analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 10% per year, which is noticeably more attractive.

In light of this, it's curious that Japan Tobacco's P/E sits in line with the majority of other companies. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

What We Can Learn From Japan Tobacco's P/E?

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.

We've established that Japan Tobacco currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. Right now we are uncomfortable with the P/E as the predicted future earnings aren't likely to support a more positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Japan Tobacco that you should be aware of.

You might be able to find a better investment than Japan Tobacco. 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.