Earnings Not Telling The Story For Digital Arts Inc. (TSE:2326) After Shares Rise 27%

Digital Arts Inc. (TSE:2326) shares have had a really impressive month, gaining 27% after a shaky period beforehand. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 23% in the last twelve months.

Even after such a large jump in price, it's still not a stretch to say that Digital Arts' price-to-earnings (or "P/E") ratio of 14.2x right now seems quite "middle-of-the-road" compared to the market in Japan, where the median P/E ratio is around 15x. Although, it's not wise to simply ignore the P/E without explanation as investors may be disregarding a distinct opportunity or a costly mistake.

Digital Arts certainly has been doing a good job lately as it's been growing earnings more than most other companies. It might be that many expect the strong earnings performance to wane, which has kept the P/E from rising. If not, then existing shareholders have reason to be feeling optimistic about the future direction of the share price.

Check out our latest analysis for Digital Arts

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

Is There Some Growth For Digital Arts?

There's an inherent assumption that a company should be matching the market for P/E ratios like Digital Arts' to be considered reasonable.

Retrospectively, the last year delivered an exceptional 45% gain to the company's bottom line. The strong recent performance means it was also able to grow EPS by 117% 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.

Shifting to the future, estimates from the one analyst covering the company suggest earnings should grow by 0.5% per annum over the next three years. With the market predicted to deliver 9.5% growth per annum, the company is positioned for a weaker earnings result.

In light of this, it's curious that Digital Arts' P/E sits in line with the majority of other companies. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. Maintaining these prices will be difficult to achieve as this level of earnings growth is likely to weigh down the shares eventually.

What We Can Learn From Digital Arts' P/E?

Digital Arts appears to be back in favour with a solid price jump getting its P/E back in line with most other companies. 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 Digital Arts currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. Right now we are uncomfortable with the P/E as the predicted future earnings aren't likely to support a more positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

It is also worth noting that we have found 2 warning signs for Digital Arts that you need to take into consideration.

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.

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