Nexteer Automotive Group Limited (HKG:1316) shares have retraced a considerable 37% in the last month, reversing a fair amount of their solid recent performance. The recent drop has obliterated the annual return, with the share price now down 6.5% over that longer period.
In spite of the heavy fall in price, given close to half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") below 10x, you may still consider Nexteer Automotive Group as a stock to avoid entirely with its 18.2x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.
Recent times have been advantageous for Nexteer Automotive Group as its earnings have been rising faster than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.
View our latest analysis for Nexteer Automotive Group
What Are Growth Metrics Telling Us About The High P/E?
The only time you'd be truly comfortable seeing a P/E as steep as Nexteer Automotive Group's is when the company's growth is on track to outshine the market decidedly.
If we review the last year of earnings growth, the company posted a terrific increase of 68%. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 48% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Turning to the outlook, the next three years should generate growth of 44% per year as estimated by the analysts watching the company. That's shaping up to be materially higher than the 14% per annum growth forecast for the broader market.
In light of this, it's understandable that Nexteer Automotive Group's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
What We Can Learn From Nexteer Automotive Group's P/E?
Even after such a strong price drop, Nexteer Automotive Group's P/E still exceeds the rest of the market significantly. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.
As we suspected, our examination of Nexteer Automotive Group's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. Unless these conditions change, they will continue to provide strong support to the share price.
Having said that, be aware Nexteer Automotive Group is showing 2 warning signs in our investment analysis, and 1 of those is potentially serious.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.