Shanghai Pret Composites Co., Ltd. (SZSE:002324) shareholders would be excited to see that the share price has had a great month, posting a 25% gain and recovering from prior weakness. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 19% over that time.

Even after such a large jump in price, it's still not a stretch to say that Shanghai Pret Composites' price-to-earnings (or "P/E") ratio of 27.8x right now seems quite "middle-of-the-road" compared to the market in China, where the median P/E ratio is around 31x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

Recent times have been advantageous for Shanghai Pret Composites as its earnings have been rising faster than most other companies. One possibility is that the P/E is moderate because investors think this strong earnings performance might be about to tail off. 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.

Is There Some Growth For Shanghai Pret Composites?

Shanghai Pret Composites' 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.

Taking a look back first, we see that the company grew earnings per share by an impressive 122% last year. EPS has also lifted 7.5% 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.

Shifting to the future, estimates from the four analysts covering the company suggest earnings should grow by 57% over the next year. With the market only predicted to deliver 36%, the company is positioned for a stronger earnings result.

In light of this, it's curious that Shanghai Pret Composites' P/E sits in line with the majority of other companies. Apparently some shareholders are skeptical of the forecasts and have been accepting lower selling prices.

The Key Takeaway

Its shares have lifted substantially and now Shanghai Pret Composites' P/E is also back up to the market median. 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.

Our examination of Shanghai Pret Composites' analyst forecasts revealed that its superior earnings outlook isn't contributing to its P/E as much as we would have predicted. When we see a strong earnings outlook with faster-than-market growth, we assume potential risks are what might be placing pressure on the P/E ratio. At least the risk of a price drop looks to be subdued, but investors seem to think future earnings could see some volatility.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Shanghai Pret Composites, and understanding should be part of your investment process.

If these risks are making you reconsider your opinion on Shanghai Pret Composites, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.