Fanuc Corporation's (TSE:6954) 25% Share Price Surge Not Quite Adding Up

Fanuc Corporation (TSE:6954) shares have continued their recent momentum with a 25% gain in the last month alone. The last 30 days bring the annual gain to a very sharp 49%.

Following the firm bounce in price, Fanuc's price-to-earnings (or "P/E") ratio of 35.7x might make it look like a strong sell right now compared to the market in Japan, where around half of the companies have P/E ratios below 14x and even P/E's below 10x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

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Fanuc certainly has been doing a good job lately as it's been growing earnings more than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Fanuc

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

Is There Enough Growth For Fanuc?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Fanuc's to be considered reasonable.

If we review the last year of earnings growth, the company posted a worthy increase of 15%. Although, the latest three year period in total hasn't been as good as it didn't manage to provide any growth at all. Therefore, it's fair to say that earnings growth has been inconsistent recently for the company.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 7.2% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 9.0% per year, which is not materially different.

With this information, we find it interesting that Fanuc is trading at a high P/E compared to the market. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for disappointment if the P/E falls to levels more in line with the growth outlook.

The Key Takeaway

Fanuc's P/E is flying high just like its stock has during the last month. 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.

We've established that Fanuc currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Fanuc, and understanding should be part of your investment process.

You might be able to find a better investment than Fanuc. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.