The Shenzhen Zhaowei Machinery & Electronics Co., Ltd. (SZSE:003021) share price has done very well over the last month, posting an excellent gain of 27%. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 16% in the last twelve months.

Since its price has surged higher, Shenzhen Zhaowei Machinery & Electronics' price-to-earnings (or "P/E") ratio of 59.2x might 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 32x and even P/E's below 20x 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.

Recent times have been advantageous for Shenzhen Zhaowei Machinery & Electronics 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Does Growth Match The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Shenzhen Zhaowei Machinery & Electronics' to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 30%. However, this wasn't enough as the latest three year period has seen a very unpleasant 30% drop in EPS in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Shifting to the future, estimates from the five analysts covering the company suggest earnings should grow by 18% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 26% per annum, which is noticeably more attractive.

With this information, we find it concerning that Shenzhen Zhaowei Machinery & Electronics is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Bottom Line On Shenzhen Zhaowei Machinery & Electronics' P/E

The strong share price surge has got Shenzhen Zhaowei Machinery & Electronics' P/E rushing to great heights as well. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Shenzhen Zhaowei Machinery & Electronics currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these 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 Shenzhen Zhaowei Machinery & Electronics you should be aware of.

If you're unsure about the strength of Shenzhen Zhaowei Machinery & Electronics' 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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