NEC Networks & System Integration Corporation's (TSE:1973) 26% Price Boost Is Out Of Tune With Earnings

NEC Networks & System Integration Corporation (TSE:1973) shareholders have had their patience rewarded with a 26% share price jump in the last month. The last 30 days bring the annual gain to a very sharp 54%.

Since its price has surged higher, NEC Networks & System Integration's price-to-earnings (or "P/E") ratio of 31.6x 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.

NEC Networks & System Integration could be doing better as it's been growing earnings less than most other companies lately. One possibility is that the P/E is high because investors think this lacklustre earnings performance will improve markedly. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for NEC Networks & System Integration

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Does Growth Match The High P/E?

NEC Networks & System Integration'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.

If we review the last year of earnings growth, the company posted a worthy increase of 5.9%. Ultimately though, it couldn't turn around the poor performance of the prior period, with EPS shrinking 5.5% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Shifting to the future, estimates from the two analysts covering the company suggest earnings should grow by 12% each year over the next three years. Meanwhile, the rest of the market is forecast to expand by 10% each year, which is not materially different.

In light of this, it's curious that NEC Networks & System Integration's P/E sits above the majority of other companies. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

The Key Takeaway

The strong share price surge has got NEC Networks & System Integration's P/E rushing to great heights as well. 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.

Our examination of NEC Networks & System Integration's analyst forecasts revealed that its market-matching earnings outlook isn't impacting its high P/E as much as we would have predicted. Right now we are uncomfortable with the relatively high share price as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

The company's balance sheet is another key area for risk analysis. You can assess many of the main risks through our free balance sheet analysis for NEC Networks & System Integration with six simple checks.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.