Lofty valuations can be an enigma. While they often mean that a stock is overheated and set to correct, they can also reflect investor optimism. If investors think a company will outperform, then they’re often happy to pay a large premium for its stock.

The final interpretation depends on the company.

#-ad_banner-#Take Acuity Brands, Inc. (NYSE: AYI), for example, which is the world’s top producer of lighting fixtures and related accessories for commercial and other nonresidential settings. The firm’s price-to-earnings (P/E) ratio of 42 is about twice that of the broader stock market.

But rather than being a sell signal, this relatively high P/E signals widespread confidence in Acuity’s future. The company has increased earnings by 20% annually since 2010, and the market sees it keeping up a similar pace of expansion in the coming years.

Why should investors expect sustained strong growth? Because the company operates in a fragmented industry, and the company’s solid 20% market share should keep growing, thanks to a 1.7-million item product portfolio. Plus, the firm is far outclassing rivals in the industry’s premier growth segment: light-emitting diode (LED)-related products, which are gradually replacing those based on traditional fluorescent lightbulbs.

Acuity capitalizes on this hot market by selling fixtures that house LED bulbs rather than selling the bulbs themselves, which have fallen in price and become less profitable. The firm’s LED business now generates 40%-to-45% of sales, up from a negligible portion only a few years ago. The LED segment should become Acuity’s most dominant division as fluorescent bulbs are phased out in coming years, analysts say.

All this makes Acuity an industry disruptor and a highly desirable investment in the eyes of mutual fund manager Timothy Parton, who has guided the $3-billion JPMorgan Mid Cap Growth fund (NYSE: OSGIX) to market-trouncing returns over the past decade. Acuity was OSGIX’s third-largest position at the end of the second quarter. The stock has nearly tripled since Parton first purchased shares in October 2012.

Parton would be wise to keep Acuity as a top holding. With its LED segment growing about twice as fast as rival LED businesses, Acuity should continue spearheading the transition to LED lighting. By 2030, three-quarters of lighting in the United States will be LED-generated, projects the Department of Energy (DOE).

The technology’s popularity is snowballing because LED bulbs typically last much longer than fluorescent bulbs. They also use a lot less energy. According to DOE projections covering the 2010-to-2030 period, the shift to LED lighting could reduce energy consumption by nearly half. This implies savings of roughly $250 billion, based on recent energy prices, as well as enormous reductions in greenhouse gas emissions, the DOE says.

To help widen its industry lead, Acuity is moving decisively into the Internet of Things.  That’s a smart strategy: Internet of Things, which entails the integration of otherwise unconnected devices and technologies, should boost the efficiency and “smarts” of a range of devices.

To that end, Acuity recently formed a partnership with Sensity Systems, Inc., a technology firm with expertise in the Internet of Things as it applies to outdoor lighting used in areas like infrastructure or industry. For such markets, the two companies are designing an integrated “smart” LED lighting platform that enables lighting networks to be efficiently monitored and controlled from the cloud.

Acuity already owns a similar technology, though that system was made specifically for street lighting. The one being developed with Sensity is expected to be more widely adaptable and should therefore appeal to many potential large-scale users such as cities, airports and municipalities.

In March, Acuity announced an acquisition which should boost sales in the commercial building sector: a $253-million buyout of building management technologies provider Distech Controls. When the deal was struck, the Canadian firm had annual revenue of nearly $60 million from software platforms and other tools that integrate building functions such as lighting, climate control and security systems.

Nonresidential markets currently account for about 90% of Acuity’s revenue, and that probably won’t change much anytime soon. Although the residential market is vast and should continue to present some opportunity, the commercial side offers substantially better margins, analysts say. Plus, with the Internet of Things still in its infancy and the nationwide conversion to LED lighting far from over, there’s still a long runway for growth in a sector where Acuity is already dominant.

Risks To Consider: While Acuity’s high P/E reflects optimism, it still presents an element of added risk. As with any stock that’s so richly valued, investors should expect disproportionate price volatility in the face of any earnings setbacks or external shocks.

Action To Take –> Shares of Acuity Brands may be expensive, but they’re worth the price. On its current heading, Acuity is a good bet to boost revenue from around $2.4 billion in fiscal (August) 2014 to more than $3 billion by fiscal 2016. Over the next five years, the firm is capable of more than doubling earnings to about $10.30 a share, from around $4.50 today. Upside potential for its stock is in the 80%-to-90% range during that time.

As it continues to tighten its grip on the LED market, Acuity could also develop into a solid income payer. While the current dividend of $0.52 per share only translates into a 0.3% yield, it also only represents a payout ratio of 10%. Thus, there should be plenty of room for generous dividend raises in the coming years.

Oftentimes the little ideas are the big game changers — something like the switch to LED lightbulbs. My colleague Andy Obermueller devotes his time to identifying game-changing trends and the companies that should benefit from this. This has led readers to investments that went on to gain triple-digits. 

More recently, Andy has been talking about the profit potential for Apple’s newest technology Apple Pay — and more importantly the company’s key suppliers. If you haven’t heard about this opportunity yet, then I urge you to check out his comprehensive report on how to profit from this technology, by clicking here.