Sanxiang Advanced Materials Co., Ltd. (SHSE:603663) shares have continued their recent momentum with a 27% gain in the last month alone. Looking back a bit further, it's encouraging to see the stock is up 32% in the last year.

Following the firm bounce in price, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 29x, you may consider Sanxiang Advanced Materials as a stock to avoid entirely with its 52.1x 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.

For example, consider that Sanxiang Advanced Materials' financial performance has been poor lately as its earnings have been in decline. 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.

View our latest analysis for Sanxiang Advanced Materials

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 Sanxiang Advanced Materials' is when the company's growth is on track to outshine the market decidedly.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 33%. However, a few very strong years before that means that it was still able to grow EPS by an impressive 53% in total over the last three years. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been more than adequate for the company.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 42% shows it's noticeably less attractive on an annualised basis.

With this information, we find it concerning that Sanxiang Advanced Materials is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Key Takeaway

Sanxiang Advanced Materials' P/E is flying high just like its stock has during the last month. 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 Sanxiang Advanced Materials revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. When we see weak earnings with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You need to take note of risks, for example - Sanxiang Advanced Materials has 3 warning signs (and 1 which can't be ignored) we think you should know about.

If these risks are making you reconsider your opinion on Sanxiang Advanced Materials, 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.