The Wiscom System Co., Ltd. (SZSE:002090) share price has fared very poorly over the last month, falling by a substantial 26%. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 45% share price drop.

In spite of the heavy fall in price, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 27x, you may still consider Wiscom System as a stock to avoid entirely with its 79.8x 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 Wiscom System over the last year, which is not ideal at all. It might be that many expect the company to still outplay most other companies over the coming period, 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.

Is There Enough Growth For Wiscom System?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Wiscom System'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 70%. This has soured the latest three-year period, which nevertheless managed to deliver a decent 18% overall rise in EPS. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of earnings growth.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 41% shows it's noticeably less attractive on an annualised basis.

With this information, we find it concerning that Wiscom System is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. 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.

What We Can Learn From Wiscom System's P/E?

Even after such a strong price drop, Wiscom System'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.

Our examination of Wiscom System 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. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It is also worth noting that we have found 4 warning signs for Wiscom System (1 doesn't sit too well with us!) that you need to take into consideration.

You might be able to find a better investment than Wiscom System. 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.