Market Cool On Extreme Co.,Ltd.'s (TSE:6033) Earnings Pushing Shares 34% Lower

Extreme Co.,Ltd. (TSE:6033) shareholders that were waiting for something to happen have been dealt a blow with a 34% share price drop in the last month. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 32% in that time.

After such a large drop in price, ExtremeLtd's price-to-earnings (or "P/E") ratio of 4.5x might make it look like a strong buy right now compared to the market in Japan, where around half of the companies have P/E ratios above 14x and even P/E's above 21x are quite common. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

Earnings have risen firmly for ExtremeLtd recently, which is pleasing to see. One possibility is that the P/E is low because investors think this respectable earnings growth might actually underperform the broader market in the near future. If that doesn't eventuate, then existing shareholders have reason to be optimistic about the future direction of the share price.

View our latest analysis for ExtremeLtd

Although there are no analyst estimates available for ExtremeLtd, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

How Is ExtremeLtd's Growth Trending?

There's an inherent assumption that a company should far underperform the market for P/E ratios like ExtremeLtd's to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 27%. The strong recent performance means it was also able to grow EPS by 112% 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.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 9.8% shows it's noticeably more attractive on an annualised basis.

With this information, we find it odd that ExtremeLtd is trading at a P/E lower than the market. It looks like most investors are not convinced the company can maintain its recent growth rates.

The Key Takeaway

ExtremeLtd's P/E looks about as weak as its stock price lately. 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 ExtremeLtd currently trades on a much lower than expected P/E since its recent three-year growth is higher than the wider market forecast. When we see strong earnings 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 the persistence of these recent medium-term conditions would normally provide a boost to the share price.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with ExtremeLtd (at least 1 which is a bit concerning), and understanding these should be part of your investment process.

You might be able to find a better investment than ExtremeLtd. 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).

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com