The Nova Ltd. (NASDAQ:NVMI) share price has done very well over the last month, posting an excellent gain of 27%. The annual gain comes to 103% following the latest surge, making investors sit up and take notice.

Since its price has surged higher, Nova may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 42.6x, since almost half of all companies in the United States have P/E ratios under 17x 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.

The recently shrinking earnings for Nova have been in line with the market. It might be that many expect the company's earnings to strengthen positively despite the tough market conditions, which has kept the P/E from falling. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

What Are Growth Metrics Telling Us About The High P/E?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 2.2%. Still, the latest three year period has seen an excellent 150% overall rise in EPS, in spite of its unsatisfying short-term performance. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.

Looking ahead now, EPS is anticipated to climb by 9.7% each year during the coming three years according to the six analysts following the company. Meanwhile, the rest of the market is forecast to expand by 10% per year, which is not materially different.

In light of this, it's curious that Nova's P/E sits above the majority of other companies. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

What We Can Learn From Nova's P/E?

The strong share price surge has got Nova'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.

Our examination of Nova's analyst forecasts revealed that its market-matching earnings outlook isn't impacting its high P/E as much as we would have predicted. Right now we are uncomfortable with the relatively high share price as the predicted future earnings aren't likely to support such positive sentiment for long. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Nova with six simple checks.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.