GungHo Online Entertainment, Inc.'s (TSE:3765) Business Is Yet to Catch Up With Its Share Price

There wouldn't be many who think GungHo Online Entertainment, Inc.'s (TSE:3765) price-to-earnings (or "P/E") ratio of 14x is worth a mention when the median P/E in Japan is similar at about 14x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

GungHo Online Entertainment 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 moderate because investors think this poor earnings performance will turn around. If not, then existing shareholders may be a little nervous about the viability of the share price.

Check out our latest analysis for GungHo Online Entertainment

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

Does Growth Match The P/E?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 36%. The last three years don't look nice either as the company has shrunk EPS by 35% in aggregate. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Shifting to the future, estimates from the three analysts covering the company suggest earnings growth is heading into negative territory, declining 4.4% over the next year. With the market predicted to deliver 13% growth , that's a disappointing outcome.

In light of this, it's somewhat alarming that GungHo Online Entertainment's P/E sits in line with the majority of other companies. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh on the share price eventually.

The Bottom Line On GungHo Online Entertainment'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 GungHo Online Entertainment currently trades on a higher than expected P/E for a company whose earnings are forecast to decline. Right now we are uncomfortable with the P/E as the predicted future earnings are unlikely to support a more positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

Having said that, be aware GungHo Online Entertainment is showing 1 warning sign in our investment analysis, you should know about.

You might be able to find a better investment than GungHo Online Entertainment. 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.