Earnings Tell The Story For Nintendo Co., Ltd. (TSE:7974) As Its Stock Soars 32%

Nintendo Co., Ltd. (TSE:7974) shares have continued their recent momentum with a 32% gain in the last month alone. The last 30 days bring the annual gain to a very sharp 40%.

Since its price has surged higher, Nintendo's price-to-earnings (or "P/E") ratio of 42.8x might make it look like a strong 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. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

Nintendo hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be extremely nervous about the viability of the share price.

View our latest analysis for Nintendo

Keen to find out how analysts think Nintendo's future stacks up against the industry? In that case, our free report is a great place to start.

Is There Enough Growth For Nintendo?

In order to justify its P/E ratio, Nintendo would need to produce outstanding growth well in excess of the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 35%. As a result, earnings from three years ago have also fallen 31% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 16% per annum over the next three years. With the market only predicted to deliver 9.2% each year, the company is positioned for a stronger earnings result.

In light of this, it's understandable that Nintendo'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

The strong share price surge has got Nintendo's P/E rushing to great heights as well. 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 Nintendo maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

A lot of potential risks can sit within a company's balance sheet. Take a look at our free balance sheet analysis for Nintendo with six simple checks on some of these key factors.

You might be able to find a better investment than Nintendo. 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.