With a price-to-earnings (or "P/E") ratio of 27.6x China Ruyi Holdings Limited (HKG:136) may be sending very bearish signals at the moment, given that almost half of all companies in Hong Kong have P/E ratios under 8x and even P/E's lower than 5x are not unusual. 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.
China Ruyi Holdings certainly has been doing a good job lately as it's been growing earnings more than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.
Check out our latest analysis for China Ruyi Holdings
Is There Enough Growth For China Ruyi Holdings?
There's an inherent assumption that a company should far outperform the market for P/E ratios like China Ruyi Holdings' to be considered reasonable.
Taking a look back first, we see that the company grew earnings per share by an impressive 88% last year. Still, EPS has barely risen at all from three years ago in total, which is not ideal. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.
Shifting to the future, estimates from the two analysts covering the company suggest earnings growth is heading into negative territory, declining 5.3% over the next year. That's not great when the rest of the market is expected to grow by 22%.
With this information, we find it concerning that China Ruyi Holdings is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as these declining earnings are likely to weigh heavily on the share price eventually.
The Final Word
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 China Ruyi Holdings currently trades on a much higher than expected P/E for a company whose earnings are forecast to decline. When we see a poor outlook with earnings heading backwards, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.
Before you settle on your opinion, we've discovered 3 warning signs for China Ruyi Holdings that you should be aware of.
If these risks are making you reconsider your opinion on China Ruyi Holdings, 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.