Why We're Not Concerned Yet About COVER Corporation's (TSE:5253) 26% Share Price Plunge

COVER Corporation (TSE:5253) shareholders that were waiting for something to happen have been dealt a blow with a 26% share price drop in the last month. Looking at the bigger picture, even after this poor month the stock is up 28% in the last year.

Even after such a large drop in price, COVER may still be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 29.7x, since almost half of all companies in Japan have P/E ratios under 14x and even P/E's lower than 9x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

With earnings growth that's superior to most other companies of late, COVER has been doing relatively well. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.

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Does Growth Match The High P/E?

COVER'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, we see that the company grew earnings per share by an impressive 72% last year. The strong recent performance means it was also able to grow EPS by 208% in total over the last three years. So we can start by confirming that the company has done a great job of growing earnings over that time.

Turning to the outlook, the next year should generate growth of 35% as estimated by the three analysts watching the company. With the market only predicted to deliver 11%, the company is positioned for a stronger earnings result.

In light of this, it's understandable that COVER's 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 Final Word

COVER's shares may have retreated, but its P/E is still flying high. 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 COVER 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. It's hard to see the share price falling strongly in the near future under these circumstances.

Many other vital risk factors can be found on the company's balance sheet. Our free balance sheet analysis for COVER with six simple checks will allow you to discover any risks that could be an issue.

Of course, you might also be able to find a better stock than COVER. 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.