It's not a stretch to say that Guangdong Zhongsheng Pharmaceutical Co., Ltd.'s (SZSE:002317) price-to-earnings (or "P/E") ratio of 34.3x right now seems quite "middle-of-the-road" compared to the market in China, where the median P/E ratio is around 32x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

Guangdong Zhongsheng Pharmaceutical certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. It might be that many expect the strong earnings performance to wane, which has kept the P/E from rising. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's not quite in favour.

View our latest analysis for Guangdong Zhongsheng Pharmaceutical

Does Growth Match The P/E?

Guangdong Zhongsheng Pharmaceutical's P/E ratio would be typical for a company that's only expected to deliver moderate growth, and importantly, perform in line with the market.

If we review the last year of earnings growth, the company posted a terrific increase of 60%. Pleasingly, EPS has also lifted 32% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Comparing that to the market, which is predicted to deliver 43% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

With this information, we find it interesting that Guangdong Zhongsheng Pharmaceutical is trading at a fairly similar P/E to the market. Apparently many investors in the company are less bearish than recent times would indicate and aren't willing to let go of their stock right now. They may be setting themselves up for future disappointment if the P/E falls to levels more in line with recent growth rates.

The Key Takeaway

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 Guangdong Zhongsheng Pharmaceutical currently trades on a higher than expected P/E since its recent three-year growth is lower than the wider market forecast. Right now we are uncomfortable with the P/E as this earnings performance isn't likely to support a more positive sentiment for long. Unless the recent medium-term conditions improve, it's challenging to accept these prices as being reasonable.

Don't forget that there may be other risks. For instance, we've identified 4 warning signs for Guangdong Zhongsheng Pharmaceutical (2 are a bit unpleasant) you should be aware of.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.