Nova Ltd.'s (NASDAQ:NVMI) Shares Climb 26% But Its Business Is Yet to Catch Up

Nova Ltd. (NASDAQ:NVMI) shareholders would be excited to see that the share price has had a great month, posting a 26% gain and recovering from prior weakness. Looking back a bit further, it's encouraging to see the stock is up 66% in the last year.

Since its price has surged higher, given close to half the companies in the United States have price-to-earnings ratios (or "P/E's") below 19x, you may consider Nova as a stock to avoid entirely with its 41.8x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

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Recent times have been advantageous for Nova as its earnings have been rising faster 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.

Check out our latest analysis for Nova

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

Is There Enough Growth For Nova?

Nova'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.

Retrospectively, the last year delivered an exceptional 51% gain to the company's bottom line. Pleasingly, EPS has also lifted 86% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 2.6% per annum as estimated by the seven analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 11% per annum, which is noticeably more attractive.

In light of this, it's alarming that Nova's P/E sits above the majority of other companies. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Bottom Line On Nova's P/E

Nova's P/E is flying high just like its stock has during the last month. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Nova 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 Nova with six simple checks.

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.