Formosa Oilseed Processing Co., Ltd. (TWSE:1225) May Have Run Too Fast Too Soon With Recent 29% Price Plummet

To the annoyance of some shareholders, Formosa Oilseed Processing Co., Ltd. (TWSE:1225) shares are down a considerable 29% in the last month, which continues a horrid run for the company. The last month has meant the stock is now only up 2.4% during the last year.

Even after such a large drop in price, Formosa Oilseed Processing may still be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 31.5x, since almost half of all companies in Taiwan have P/E ratios under 21x and even P/E's lower than 14x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

Formosa Oilseed Processing certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. It seems that many are expecting the strong earnings performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. If not, then existing shareholders might be a little nervous about the viability of the share price.

Check out our latest analysis for Formosa Oilseed Processing

Although there are no analyst estimates available for Formosa Oilseed Processing, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

Does Growth Match The High P/E?

In order to justify its P/E ratio, Formosa Oilseed Processing 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 56% last year. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 14% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Comparing that to the market, which is predicted to deliver 26% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Formosa Oilseed Processing 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. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

What We Can Learn From Formosa Oilseed Processing's P/E?

Despite the recent share price weakness, Formosa Oilseed Processing's P/E remains higher than most other companies. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Our examination of Formosa Oilseed Processing 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.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 4 warning signs with Formosa Oilseed Processing (at least 3 which don't sit too well with us), and understanding them should be part of your investment process.

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.