Why Investors Shouldn't Be Surprised By Advantest Corporation's (TSE:6857) 58% Share Price Surge

Despite an already strong run, Advantest Corporation (TSE:6857) shares have been powering on, with a gain of 58% in the last thirty days. The last month tops off a massive increase of 165% in the last year.

Since its price has surged higher, Advantest may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 64.3x, since almost half of all companies in Japan have P/E ratios under 14x and even P/E's lower than 10x 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.

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Recent times have been advantageous for Advantest as its earnings have been rising faster than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.

See our latest analysis for Advantest

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

Does Growth Match The High P/E?

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

Retrospectively, the last year delivered an exceptional 149% gain to the company's bottom line. Pleasingly, EPS has also lifted 123% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 14% per year over the next three years. With the market only predicted to deliver 9.6% per annum, the company is positioned for a stronger earnings result.

In light of this, it's understandable that Advantest's P/E sits above the majority of other companies. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Key Takeaway

Shares in Advantest have built up some good momentum lately, which has really inflated its P/E. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

We've established that Advantest 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.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Advantest that you should be aware of.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on a low P/E.

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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.