Why Investors Shouldn't Be Surprised By Digi International Inc.'s (NASDAQ:DGII) 38% Share Price Surge

Digi International Inc. (NASDAQ:DGII) shareholders are no doubt pleased to see that the share price has bounced 38% in the last month, although it is still struggling to make up recently lost ground. Taking a wider view, although not as strong as the last month, the full year gain of 19% is also fairly reasonable.

After such a large jump in price, Digi International may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 28x, since almost half of all companies in the United States have P/E ratios under 17x and even P/E's lower than 10x 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.

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Recent times have been advantageous for Digi International as its earnings have been rising faster 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 Digi International

Is There Enough Growth For Digi International?

In order to justify its P/E ratio, Digi International would need to produce outstanding growth well in excess of the market.

Retrospectively, the last year delivered an exceptional 196% gain to the company's bottom line. Pleasingly, EPS has also lifted 234% in aggregate from three years ago, thanks to the last 12 months of growth. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 46% per annum during the coming three years according to the six analysts following the company. That's shaping up to be materially higher than the 10% per annum growth forecast for the broader market.

With this information, we can see why Digi International is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Bottom Line On Digi International's P/E

Digi International'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.

As we suspected, our examination of Digi International's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

The company's balance sheet is another key area for risk analysis. Take a look at our free balance sheet analysis for Digi International with six simple checks on some of these key factors.

You might be able to find a better investment than Digi International. 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.