FormFactor, Inc.'s (NASDAQ:FORM) 43% Price Boost Is Out Of Tune With Earnings

FormFactor, Inc. (NASDAQ:FORM) shareholders have had their patience rewarded with a 43% share price jump in the last month. The last 30 days bring the annual gain to a very sharp 91%.

Following the firm bounce in price, FormFactor may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 43.7x, since almost half of all companies in the United States have P/E ratios under 17x and even P/E's lower than 9x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

FormFactor certainly has been doing a good job lately as its earnings growth has been positive while most other companies have been seeing their earnings go backwards. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for FormFactor

If you'd like to see what analysts are forecasting going forward, you should check out our free report on FormFactor.

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as steep as FormFactor's is when the company's growth is on track to outshine the market decidedly.

Taking a look back first, we see that the company grew earnings per share by an impressive 349% last year. As a result, it also grew EPS by 25% in total over the last three years. Accordingly, shareholders would have probably been satisfied with the medium-term rates of earnings growth.

Turning to the outlook, the next year should bring diminished returns, with earnings decreasing 22% as estimated by the nine analysts watching the company. Meanwhile, the broader market is forecast to expand by 13%, which paints a poor picture.

In light of this, it's alarming that FormFactor's P/E sits above the majority of other companies. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh heavily on the share price eventually.

The Key Takeaway

The strong share price surge has got FormFactor's P/E rushing to great heights as well. 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.

We've established that FormFactor currently trades on a much higher than expected P/E for a company whose earnings are forecast to decline. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings are highly unlikely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Before you settle on your opinion, we've discovered 2 warning signs for FormFactor that you should be aware of.

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.