Model Solution Co., Ltd.'s (KOSDAQ:417970) 26% Price Boost Is Out Of Tune With Earnings

Model Solution Co., Ltd. (KOSDAQ:417970) shares have had a really impressive month, gaining 26% after a shaky period beforehand. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 35% over that time.

Since its price has surged higher, given close to half the companies in Korea have price-to-earnings ratios (or "P/E's") below 11x, you may consider Model Solution as a stock to avoid entirely with its 25.4x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

For instance, Model Solution's receding earnings in recent times would have to be some food for thought. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Model Solution

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Model Solution's earnings, revenue and cash flow.

What Are Growth Metrics Telling Us About The High P/E?

Model Solution'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.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 18%. As a result, earnings from three years ago have also fallen 70% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 34% shows it's an unpleasant look.

With this information, we find it concerning that Model Solution is trading at a P/E higher than the market. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Key Takeaway

The strong share price surge has got Model Solution's P/E rushing to great heights as well. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

Our examination of Model Solution revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

You need to take note of risks, for example - Model Solution has 2 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and 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.