Future Machine Limited's (HKG:1401) Shares Climb 30% But Its Business Is Yet to Catch Up

Future Machine Limited (HKG:1401) shareholders would be excited to see that the share price has had a great month, posting a 30% gain and recovering from prior weakness. Still, the 30-day jump doesn't change the fact that longer term shareholders have seen their stock decimated by the 57% share price drop in the last twelve months.

Following the firm bounce in price, Future Machine may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 55.3x, since almost half of all companies in Hong Kong have P/E ratios under 12x and even P/E's lower than 7x 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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For instance, Future Machine's receding earnings in recent times would have to be some food for thought. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for Future Machine

Is There Enough Growth For Future Machine?

The only time you'd be truly comfortable seeing a P/E as steep as Future Machine's is when the company's growth is on track to outshine the market decidedly.

Retrospectively, the last year delivered a frustrating 46% decrease to the company's bottom line. The last three years don't look nice either as the company has shrunk EPS by 51% in aggregate. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Comparing that to the market, which is predicted to deliver 20% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Future Machine is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Bottom Line On Future Machine's P/E

Future Machine'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.

We've established that Future Machine currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with Future Machine (at least 1 which is concerning), and understanding these should be part of your investment process.

If these risks are making you reconsider your opinion on Future Machine, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.