Unfortunately for some shareholders, the FormFactor, Inc. (NASDAQ:FORM) share price has dived 25% in the last thirty days, prolonging recent pain. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 48% share price drop.
Although its price has dipped substantially, FormFactor may still be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 26.9x, since almost half of all companies in the United States have P/E ratios under 16x 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.
While the market has experienced earnings growth lately, FormFactor's earnings have gone into reverse gear, which is not great. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be extremely nervous about the viability of the share price.
See our latest analysis for FormFactor
Is There Enough Growth For FormFactor?
FormFactor'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.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 13%. This means it has also seen a slide in earnings over the longer-term as EPS is down 17% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
Shifting to the future, estimates from the ten analysts covering the company suggest earnings growth is heading into negative territory, declining 2.9% each year over the next three years. Meanwhile, the broader market is forecast to expand by 11% per annum, 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. There's a very good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the negative growth outlook.
What We Can Learn From FormFactor's P/E?
A significant share price dive has done very little to deflate FormFactor's very lofty P/E. 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.
Our examination of FormFactor's analyst forecasts revealed that its outlook for shrinking earnings isn't impacting its high P/E anywhere near as much as we would have predicted. 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.
And what about other risks? Every company has them, and we've spotted 1 warning sign for FormFactor you should know about.
You might be able to find a better investment than FormFactor. 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.