Those holding Ningbo Shuanglin Auto Parts Co.,Ltd. (SZSE:300100) shares would be relieved that the share price has rebounded 43% in the last thirty days, but it needs to keep going to repair the recent damage it has caused to investor portfolios. Notwithstanding the latest gain, the annual share price return of 8.2% isn't as impressive.

After such a large jump in price, given around half the companies in China have price-to-earnings ratios (or "P/E's") below 29x, you may consider Ningbo Shuanglin Auto PartsLtd as a stock to potentially avoid with its 38.9x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

As an illustration, earnings have deteriorated at Ningbo Shuanglin Auto PartsLtd over the last year, which is not ideal at all. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Is There Enough Growth For Ningbo Shuanglin Auto PartsLtd?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 27%. At least EPS has managed not to go completely backwards from three years ago in aggregate, thanks to the earlier period of growth. So it appears to us that the company has had a mixed result in terms of growing earnings over that time.

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 Ningbo Shuanglin Auto PartsLtd is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. 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 Final Word

Ningbo Shuanglin Auto PartsLtd shares have received a push in the right direction, but its P/E is elevated too. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Our examination of Ningbo Shuanglin Auto PartsLtd revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. 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. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Having said that, be aware Ningbo Shuanglin Auto PartsLtd is showing 2 warning signs in our investment analysis, you should know about.

Of course, you might also be able to find a better stock than Ningbo Shuanglin Auto PartsLtd. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.