Unfortunately for some shareholders, the Hangzhou Jizhi Mechatronic Co., Ltd. (SZSE:300553) share price has dived 34% in the last thirty days, prolonging recent pain. For any long-term shareholders, the last month ends a year to forget by locking in a 58% share price decline.

Even after such a large drop in price, Hangzhou Jizhi Mechatronic's price-to-earnings (or "P/E") ratio of 48.1x might still make it look like a strong sell right now compared to the market in China, where around half of the companies have P/E ratios below 27x and even P/E's below 17x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so lofty.

With earnings growth that's exceedingly strong of late, Hangzhou Jizhi Mechatronic has been doing very well. It seems that many are expecting the strong earnings performance to beat most other companies over the coming period, which has increased investors' willingness to pay up for the stock. If not, then existing shareholders might be a little nervous about the viability of the share price.

Is There Enough Growth For Hangzhou Jizhi Mechatronic?

In order to justify its P/E ratio, Hangzhou Jizhi Mechatronic would need to produce outstanding growth well in excess of the market.

Retrospectively, the last year delivered an exceptional 87% gain to the company's bottom line. The latest three year period has also seen an excellent 113% overall rise in EPS, aided by its short-term performance. Accordingly, shareholders would have probably welcomed those 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 Hangzhou Jizhi Mechatronic 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.

The Key Takeaway

Even after such a strong price drop, Hangzhou Jizhi Mechatronic's P/E still exceeds the rest of the market significantly. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Hangzhou Jizhi Mechatronic currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. 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 should always think about risks. Case in point, we've spotted 2 warning signs for Hangzhou Jizhi Mechatronic you should be aware of.

If you're unsure about the strength of Hangzhou Jizhi Mechatronic's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.