LG CNS Co., Ltd.'s (KRX:064400) Shares Climb 29% But Its Business Is Yet to Catch Up

LG CNS Co., Ltd. (KRX:064400) shares have continued their recent momentum with a 29% gain in the last month alone. Longer-term shareholders would be thankful for the recovery in the share price since it's now virtually flat for the year after the recent bounce.

After such a large jump in price, LG CNS may be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 16.8x, since almost half of all companies in Korea have P/E ratios under 12x and even P/E's lower than 7x are not unusual. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

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LG CNS certainly has been doing a good job lately as it's been growing earnings more than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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How Is LG CNS' Growth Trending?

In order to justify its P/E ratio, LG CNS would need to produce impressive growth in excess of the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 33% last year. The strong recent performance means it was also able to grow EPS by 55% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Looking ahead now, EPS is anticipated to climb by 3.7% each year during the coming three years according to the four analysts following the company. With the market predicted to deliver 17% growth per year, the company is positioned for a weaker earnings result.

In light of this, it's alarming that LG CNS' P/E sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

What We Can Learn From LG CNS' P/E?

The large bounce in LG CNS' shares has lifted the company's P/E to a fairly high level. 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 LG CNS currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive 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 LG CNS with six simple checks.

Of course, you might also be able to find a better stock than LG CNS. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.