With a price-to-earnings (or "P/E") ratio of 11.9x Luye Pharma Group Ltd. (HKG:2186) may be sending bearish signals at the moment, given that almost half of all companies in Hong Kong have P/E ratios under 9x and even P/E's lower than 5x are not unusual. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Luye Pharma Group certainly has been doing a good job lately as it's been growing earnings more than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Is There Enough Growth For Luye Pharma Group?

The only time you'd be truly comfortable seeing a P/E as high as Luye Pharma Group's is when the company's growth is on track to outshine the market.

Retrospectively, the last year delivered an exceptional 61% gain to the company's bottom line. As a result, it also grew EPS by 22% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been respectable for the company.

Turning to the outlook, the next three years should generate growth of 15% per year as estimated by the four analysts watching the company. That's shaping up to be materially higher than the 12% per year growth forecast for the broader market.

In light of this, it's understandable that Luye Pharma 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.

The Bottom Line On Luye Pharma Group's P/E

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 Luye Pharma Group maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

The company's balance sheet is another key area for risk analysis. Take a look at our free balance sheet analysis for Luye Pharma Group with six simple checks on some of these key factors.

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.

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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.