Yihai International Holding Ltd. (HKG:1579) shares have had a really impressive month, gaining 33% after a shaky period beforehand. Taking a wider view, although not as strong as the last month, the full year gain of 11% is also fairly reasonable.
Since its price has surged higher, Yihai International Holding may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 16.3x, since almost half of all companies in Hong Kong have P/E ratios under 10x and even P/E's lower than 6x 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.
Yihai International Holding could be doing better as its earnings have been going backwards lately while most other companies have been seeing positive earnings growth. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
Check out our latest analysis for Yihai International Holding
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 Yihai International Holding's to be considered reasonable.
Retrospectively, the last year delivered a frustrating 3.1% decrease to the company's bottom line. This means it has also seen a slide in earnings over the longer-term as EPS is down 2.7% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 8.4% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 12% each year, which is noticeably more attractive.
With this information, we find it concerning that Yihai International Holding is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.
The Final Word
The strong share price surge has got Yihai International Holding's P/E rushing to great heights as well. 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 Yihai International Holding's analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.
It is also worth noting that we have found 1 warning sign for Yihai International Holding that you need to take into consideration.
You might be able to find a better investment than Yihai International Holding. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).
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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.