Despite an already strong run, L'Occitane International S.A. (HKG:973) shares have been powering on, with a gain of 30% in the last thirty days. The last 30 days bring the annual gain to a very sharp 45%.
Since its price has surged higher, L'Occitane International's price-to-earnings (or "P/E") ratio of 55.8x might make it look like a strong sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 8x and even P/E's below 4x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.
Recent times haven't been advantageous for L'Occitane International as its earnings have been falling quicker than most other companies. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. If not, then existing shareholders may be very nervous about the viability of the share price.
Is There Enough Growth For L'Occitane International?
L'Occitane International'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 a frustrating 64% decrease to the company's bottom line. As a result, earnings from three years ago have also fallen 18% overall. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.
Turning to the outlook, the next three years should generate growth of 65% per year as estimated by the ten analysts watching the company. Meanwhile, the rest of the market is forecast to only expand by 16% per annum, which is noticeably less attractive.
In light of this, it's understandable that L'Occitane International's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
The Bottom Line On L'Occitane International's P/E
The strong share price surge has got L'Occitane International's P/E rushing to great heights as well. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.
We've established that L'Occitane International maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.
There are also other vital risk factors to consider before investing and we've discovered 3 warning signs for L'Occitane International that you should be aware of.
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.