Osaka Soda Co., Ltd. (TSE:4046) Stocks Shoot Up 27% But Its P/E Still Looks Reasonable

Osaka Soda Co., Ltd. (TSE:4046) shareholders would be excited to see that the share price has had a great month, posting a 27% gain and recovering from prior weakness. The last month tops off a massive increase of 105% in the last year.

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 14x, you may consider Osaka Soda as a stock to avoid entirely with its 35.9x 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.

Osaka Soda hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. One possibility is that the P/E is high because investors think this poor earnings performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

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

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 30%. Regardless, EPS has managed to lift by a handy 17% in aggregate from three years ago, thanks to the earlier period of growth. So we can start by confirming that the company has generally done a good job of growing earnings over that time, even though it had some hiccups along the way.

Turning to the outlook, the next three years should generate growth of 35% per year as estimated by the four analysts watching the company. That's shaping up to be materially higher than the 9.6% per year growth forecast for the broader market.

With this information, we can see why Osaka Soda is trading at such a high P/E compared to the market. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Bottom Line On Osaka Soda's P/E

Shares in Osaka Soda 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 Osaka Soda 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.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Osaka Soda, and understanding should be part of your investment process.

If you're unsure about the strength of Osaka Soda'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.

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