Those holding Shandong Shanda Oumasoft CO.,LTD. (SZSE:301185) shares would be relieved that the share price has rebounded 38% in the last thirty days, but it needs to keep going to repair the recent damage it has caused to investor portfolios. Longer-term shareholders would be thankful for the recovery in the share price since it's now virtually flat for the year after the recent bounce.

Following the firm bounce in price, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 31x, you may consider Shandong Shanda OumasoftLTD as a stock to avoid entirely with its 49.2x P/E ratio. 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.

As an illustration, earnings have deteriorated at Shandong Shanda OumasoftLTD 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.

How Is Shandong Shanda OumasoftLTD's Growth Trending?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Shandong Shanda OumasoftLTD's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 17% decrease to the company's bottom line. As a result, earnings from three years ago have also fallen 27% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

In contrast to the company, the rest of the market is expected to grow by 40% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

With this information, we find it concerning that Shandong Shanda OumasoftLTD is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

What We Can Learn From Shandong Shanda OumasoftLTD's P/E?

The strong share price surge has got Shandong Shanda OumasoftLTD's P/E rushing to great heights as well. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

Our examination of Shandong Shanda OumasoftLTD revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Before you settle on your opinion, we've discovered 1 warning sign for Shandong Shanda OumasoftLTD that 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.