Scholar Education Group (HKG:1769) shareholders are no doubt pleased to see that the share price has bounced 29% in the last month, although it is still struggling to make up recently lost ground. The bad news is that even after the stocks recovery in the last 30 days, shareholders are still underwater by about 7.0% over the last year.
After such a large jump in price, given close to half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") below 10x, you may consider Scholar Education Group as a stock to avoid entirely with its 18.4x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.
As an illustration, earnings have deteriorated at Scholar Education Group over the last year, which is not ideal at all. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. If not, then existing shareholders may be quite nervous about the viability of the share price.
Check out our latest analysis for Scholar Education Group
What Are Growth Metrics Telling Us About The High P/E?
In order to justify its P/E ratio, Scholar Education Group 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 1.1%. However, a few very strong years before that means that it was still able to grow EPS by an impressive 172% in total over the last three years. 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.
This is in contrast to the rest of the market, which is expected to grow by 20% over the next year, materially lower than the company's recent medium-term annualised growth rates.
With this information, we can see why Scholar Education Group is trading at such a high P/E compared to the market. It seems most investors are expecting this strong growth to continue and are willing to pay more for the stock.
The Key Takeaway
Scholar Education Group's P/E is flying high just like its stock has during the last month. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.
We've established that Scholar Education Group maintains its high P/E on the strength of its recent three-year growth being higher than the wider market forecast, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless the recent medium-term conditions change, they will continue to provide strong support to the share price.
Having said that, be aware Scholar Education Group is showing 2 warning signs in our investment analysis, you should know about.
If these risks are making you reconsider your opinion on Scholar Education Group, 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.