What GMO TECH, Inc.'s (TSE:6026) 28% Share Price Gain Is Not Telling You

GMO TECH, Inc. (TSE:6026) shares have continued their recent momentum with a 28% gain in the last month alone. The last 30 days bring the annual gain to a very sharp 86%.

Following the firm bounce in price, GMO TECH's price-to-earnings (or "P/E") ratio of 19.6x might make it look like a sell right now compared to the market in Japan, where around half of the companies have P/E ratios below 13x and even P/E's below 9x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

Recent times have been quite advantageous for GMO TECH as its earnings have been rising very briskly. The P/E is probably high because investors think this strong earnings growth will be enough to outperform the broader market in the near future. If not, then existing shareholders might be a little nervous about the viability of the share price.

Check out our latest analysis for GMO TECH

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on GMO TECH's earnings, revenue and cash flow.

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

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

Retrospectively, the last year delivered an exceptional 331% gain to the company's bottom line. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. So it appears to us that the company has had a mixed result in terms of growing earnings over that time.

This is in contrast to the rest of the market, which is expected to grow by 11% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we find it concerning that GMO TECH is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with recent growth rates.

The Final Word

GMO TECH's P/E is getting right up there since its shares have risen strongly. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that GMO TECH currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. Right now we are increasingly uncomfortable with the high P/E as this earnings performance isn't likely to support such positive sentiment for long. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Don't forget that there may be other risks. For instance, we've identified 3 warning signs for GMO TECH (1 doesn't sit too well with us) you should be aware of.

You might be able to find a better investment than GMO TECH. 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.