The Huazhong In-Vehicle Holdings Company Limited (HKG:6830) share price has fared very poorly over the last month, falling by a substantial 79%. The recent drop completes a disastrous twelve months for shareholders, who are sitting on a 79% loss during that time.
In spite of the heavy fall in price, Huazhong In-Vehicle Holdings' price-to-earnings (or "P/E") ratio of 19.6x might still make it look like a strong sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 8x and even P/E's below 5x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.
For example, consider that Huazhong In-Vehicle Holdings' financial performance has been poor lately as its earnings have been in decline. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/E from collapsing. If not, then existing shareholders may be quite nervous about the viability of the share price.
See our latest analysis for Huazhong In-Vehicle Holdings
Does Growth Match The High P/E?
In order to justify its P/E ratio, Huazhong In-Vehicle Holdings would need to produce outstanding growth well in excess of the market.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 57%. As a result, earnings from three years ago have also fallen 66% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
In contrast to the company, the rest of the market is expected to grow by 22% over the next year, which really puts the company's recent medium-term earnings decline into perspective.
With this information, we find it concerning that Huazhong In-Vehicle Holdings 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.
What We Can Learn From Huazhong In-Vehicle Holdings' P/E?
Huazhong In-Vehicle Holdings' shares may have retreated, but its P/E is still flying high. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.
Our examination of Huazhong In-Vehicle Holdings revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. 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.
Plus, you should also learn about these 3 warning signs we've spotted with Huazhong In-Vehicle Holdings (including 2 which don't sit too well with us).
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on 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.