Why We're Not Concerned Yet About Osaka Soda Co., Ltd.'s (TSE:4046) 27% Share Price Plunge

Osaka Soda Co., Ltd. (TSE:4046) shares have had a horrible month, losing 27% after a relatively good period beforehand. Looking back over the past twelve months the stock has been a solid performer regardless, with a gain of 13%.

Although its price has dipped substantially, given close to half the companies in Japan have price-to-earnings ratios (or "P/E's") below 13x, you may still consider Osaka Soda as a stock to avoid entirely with its 26x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

While the market has experienced earnings growth lately, Osaka Soda's earnings have gone into reverse gear, which is not great. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be extremely nervous about the viability of the share price.

View our latest analysis for Osaka Soda

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Does Growth Match The High P/E?

Osaka Soda's P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

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 9.7%. This has erased any of its gains during the last three years, with practically no change in EPS being achieved in total. So it appears to us that the company has had a mixed result in terms of growing earnings over that time.

Looking ahead now, EPS is anticipated to climb by 26% each year during the coming three years according to the three analysts following the company. With the market only predicted to deliver 9.5% per annum, the company is positioned for a stronger earnings result.

With this information, we can see why Osaka Soda is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Final Word

Even after such a strong price drop, Osaka Soda's P/E still exceeds the rest of the market significantly. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

As we suspected, our examination of Osaka Soda's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless these conditions change, they will continue to provide strong support to the share price.

Before you settle on your opinion, we've discovered 1 warning sign for Osaka Soda that you should be aware of.

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.