The stock price of Koito Manufacturing Co., Ltd. (TSE:7276) agrees with investor sentiment

When almost half of the companies in Japan have price-to-earnings (or “P/E”) ratios below 13x, you might think about it Koito Manufacturing Co., Ltd. (TSE:7276) is a stock to definitely avoid due to its P/E ratio of 21.4. However, the P/E ratio might be quite high for a reason and further research is needed to determine whether it is justified.

While the market has seen earnings growth recently, Koito Manufacturing’s earnings have gone into reverse, which isn’t great. One possibility is that the P/E ratio is high because investors believe this poor earnings performance will turn things around. If not, existing shareholders may be extremely concerned about the sustainability of the share price.

Check out our latest analysis for Koito Manufacturing

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Does the growth correspond to the high P/E ratio?

There is an inherent assumption that for P/E ratios like Koito Manufacturing’s to be considered reasonable, a company should outperform the market by a wide margin.

If we review the last year of earnings, the company’s earnings disappointingly fell by 42%. This means that the company has also seen a decline in earnings over the longer term, with earnings per share falling 38% overall over the last three years. Therefore, it’s fair to say that the recent earnings growth has been undesirable for the company.

Looking ahead, earnings are expected to grow 32% per year over the next three years, according to the twelve analysts covering the company. This is likely to be well above the forecast growth of 10% per year for the broader market.

With this information, we can see why Koito Manufacturing trades at such a high P/E ratio compared to the market. It seems that most investors are expecting this strong future growth and are willing to pay more for the stock.

The key takeaway

In general, we prefer to limit the use of the price-to-earnings ratio to determining what the market thinks about the overall health of a company.

We found that Koito Manufacturing can maintain its high P/E ratio as its forecast growth is expected to be higher than the overall market. At this point, investors believe that the potential for earnings deterioration is not great enough to justify a lower P/E ratio. Under these circumstances, it’s hard to imagine the share price falling sharply in the near future.

Be aware of this Koito Manufacturing has 2 warning signs You should know about this in our investment analysis.

If these Risks cause you to reconsider your opinion about Koito ManufacturingExplore our interactive list of high-quality stocks to get an idea of ​​what else is out there.

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This article from Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts using only an unbiased methodology and our articles are not intended as financial advice. It does not constitute a recommendation to buy or sell any stock and does not take into account your objectives or financial situation. Our goal is to provide you with long-term focused analysis based on fundamental data. Note that our analysis may not reflect the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.