The Zhejiang Kaier New Materials Co.,Ltd. (SZSE:300234) share price has fared very poorly over the last month, falling by a substantial 28%. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 30% share price drop.

Even after such a large drop in price, there still wouldn't be many who think Zhejiang Kaier New MaterialsLtd's price-to-earnings (or "P/E") ratio of 26x is worth a mention when the median P/E in China is similar at about 28x. 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.

With earnings growth that's exceedingly strong of late, Zhejiang Kaier New MaterialsLtd has been doing very well. The P/E is probably moderate because investors think this strong earnings growth might not be enough to outperform the broader market in the near future. If that doesn't eventuate, then existing shareholders have reason to be feeling optimistic about the future direction of the share price.

Does Growth Match The P/E?

In order to justify its P/E ratio, Zhejiang Kaier New MaterialsLtd would need to produce growth that's similar to the market.

Retrospectively, the last year delivered an exceptional 31% gain to the company's bottom line. EPS has also lifted 16% in aggregate from three years ago, mostly thanks to the last 12 months of growth. So we can start by confirming that the company has actually done a good job of growing earnings over that time.

This is in contrast to the rest of the market, which is expected to grow by 41% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we find it interesting that Zhejiang Kaier New MaterialsLtd is trading at a fairly similar P/E to the market. It seems most investors are ignoring the fairly limited recent growth rates and are willing to pay up for exposure to the stock. 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

Following Zhejiang Kaier New MaterialsLtd's share price tumble, its P/E is now hanging on to the median market P/E. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

We've established that Zhejiang Kaier New MaterialsLtd currently trades on a 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 moderate P/E lower. Unless the recent medium-term conditions improve, it's challenging to accept these prices as being reasonable.

There are also other vital risk factors to consider before investing and we've discovered 2 warning signs for Zhejiang Kaier New MaterialsLtd that you should be aware of.

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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