Soken Chemical & Engineering Co., Ltd. (TSE:4972) Soars 29% But It's A Story Of Risk Vs Reward

Soken Chemical & Engineering Co., Ltd. (TSE:4972) shares have had a really impressive month, gaining 29% after a shaky period beforehand. Looking back a bit further, it's encouraging to see the stock is up 77% in the last year.

Even after such a large jump in price, Soken Chemical & Engineering may still be sending bullish signals at the moment with its price-to-earnings (or "P/E") ratio of 7.5x, since almost half of all companies in Japan have P/E ratios greater than 14x and even P/E's higher than 22x are not unusual. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

With earnings growth that's superior to most other companies of late, Soken Chemical & Engineering has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

Check out our latest analysis for Soken Chemical & Engineering

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Is There Any Growth For Soken Chemical & Engineering?

The only time you'd be truly comfortable seeing a P/E as low as Soken Chemical & Engineering's is when the company's growth is on track to lag the market.

Retrospectively, the last year delivered an exceptional 207% gain to the company's bottom line. As a result, it also grew EPS by 21% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been respectable for the company.

Looking ahead now, EPS is anticipated to climb by 16% per year during the coming three years according to the lone analyst following the company. With the market only predicted to deliver 9.4% per year, the company is positioned for a stronger earnings result.

With this information, we find it odd that Soken Chemical & Engineering is trading at a P/E lower than the market. Apparently some shareholders are doubtful of the forecasts and have been accepting significantly lower selling prices.

The Final Word

The latest share price surge wasn't enough to lift Soken Chemical & Engineering's P/E close to the market median. 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.

We've established that Soken Chemical & Engineering currently trades on a much lower than expected P/E since its forecast growth is higher than the wider market. When we see a strong earnings outlook with faster-than-market growth, we assume potential risks are what might be placing significant pressure on the P/E ratio. It appears many are indeed anticipating earnings instability, because these conditions should normally provide a boost to the share price.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Soken Chemical & Engineering, and understanding them should be part of your investment process.

Of course, you might also be able to find a better stock than Soken Chemical & Engineering. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.