Tiangong International Company Limited's (HKG:826) price-to-earnings (or "P/E") ratio of 15.5x might make it look like a sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 10x and even P/E's below 6x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.
Tiangong International could be doing better as its earnings have been going backwards lately while most other companies have been seeing positive earnings growth. One possibility is that the P/E is high because investors think this poor earnings performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
Check out our latest analysis for Tiangong International
What Are Growth Metrics Telling Us About The High P/E?
There's an inherent assumption that a company should outperform the market for P/E ratios like Tiangong International's to be considered reasonable.
Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 21%. As a result, earnings from three years ago have also fallen 48% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
Looking ahead now, EPS is anticipated to climb by 13% per annum during the coming three years according to the two analysts following the company. That's shaping up to be similar to the 11% per year growth forecast for the broader market.
With this information, we find it interesting that Tiangong International is trading at a high P/E compared to the market. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for disappointment if the P/E falls to levels more in line with the growth outlook.
The Key Takeaway
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.
Our examination of Tiangong International's analyst forecasts revealed that its market-matching earnings outlook isn't impacting its high P/E as much as we would have predicted. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.
A lot of potential risks can sit within a company's balance sheet. Our free balance sheet analysis for Tiangong International with six simple checks will allow you to discover any risks that could be an issue.
You might be able to find a better investment than Tiangong International. 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.