After Leaping 39% EM Systems Co., Ltd. (TSE:4820) Shares Are Not Flying Under The Radar

EM Systems Co., Ltd. (TSE:4820) shareholders would be excited to see that the share price has had a great month, posting a 39% gain and recovering from prior weakness. While recent buyers may be laughing, long-term holders might not be as pleased since the recent gain only brings the stock back to where it started a year ago.

After such a large jump in price, given close to half the companies in Japan have price-to-earnings ratios (or "P/E's") below 13x, you may consider EM Systems as a stock to avoid entirely with its 23.2x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

Recent times have been advantageous for EM Systems as its earnings have been rising faster than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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Does Growth Match The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like EM Systems' to be considered reasonable.

Retrospectively, the last year delivered an exceptional 32% gain to the company's bottom line. The latest three year period has also seen a 20% overall rise in EPS, aided extensively by its short-term performance. So we can start by confirming that the company has actually done a good job of growing earnings over that time.

Turning to the outlook, the next year should generate growth of 14% as estimated by the one analyst watching the company. Meanwhile, the rest of the market is forecast to only expand by 12%, which is noticeably less attractive.

In light of this, it's understandable that EM Systems' P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Bottom Line On EM Systems' P/E

Shares in EM Systems have built up some good momentum lately, which has really inflated its P/E. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

We've established that EM Systems maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

Plus, you should also learn about these 2 warning signs we've spotted with EM Systems.

If these risks are making you reconsider your opinion on EM Systems, 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.