Shanghai Haohai Biological Technology Co., Ltd. (HKG:6826) shares have retraced a considerable 26% in the last month, reversing a fair amount of their solid recent performance. The recent drop has obliterated the annual return, with the share price now down 2.7% over that longer period.

Although its price has dipped substantially, Shanghai Haohai Biological Technology's price-to-earnings (or "P/E") ratio of 15.1x might still make it look like a strong sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 9x and even P/E's below 6x are quite common. 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.

Shanghai Haohai Biological Technology certainly has been doing a good job lately as it's been growing earnings more than most other companies. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

What Are Growth Metrics Telling Us About The High P/E?

Shanghai Haohai Biological Technology's P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

If we review the last year of earnings growth, the company posted a terrific increase of 27%. The latest three year period has also seen an excellent 50% overall rise in EPS, aided by its short-term performance. So we can start by confirming that the company has done a great job of growing earnings over that time.

Turning to the outlook, the next year should generate growth of 91% as estimated by the sole analyst watching the company. Meanwhile, the rest of the market is forecast to only expand by 23%, which is noticeably less attractive.

In light of this, it's understandable that Shanghai Haohai Biological Technology's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Key Takeaway

Even after such a strong price drop, Shanghai Haohai Biological Technology's P/E still exceeds the rest of the market significantly. 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.

As we suspected, our examination of Shanghai Haohai Biological Technology's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. It's hard to see the share price falling strongly in the near future under these circumstances.

The company's balance sheet is another key area for risk analysis. You can assess many of the main risks through our free balance sheet analysis for Shanghai Haohai Biological Technology with six simple checks.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.