The GUILIN FUDA Co.,Ltd. (SHSE:603166) share price has fared very poorly over the last month, falling by a substantial 26%. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 27% in that time.
In spite of the heavy fall in price, given around half the companies in China have price-to-earnings ratios (or "P/E's") below 27x, you may still consider GUILIN FUDALtd as a stock to potentially avoid with its 40.2x 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 as high as it is.
For instance, GUILIN FUDALtd's receding earnings in recent times would have to be some food for thought. 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. If not, then existing shareholders may be quite nervous about the viability of the share price.
Does Growth Match The High P/E?
There's an inherent assumption that a company should outperform the market for P/E ratios like GUILIN FUDALtd's to be considered reasonable.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 26%. This means it has also seen a slide in earnings over the longer-term as EPS is down 57% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 41% shows it's an unpleasant look.
With this information, we find it concerning that GUILIN FUDALtd is trading at a P/E higher than the market. It seems most investors are ignoring the recent poor growth rate 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 Key Takeaway
There's still some solid strength behind GUILIN FUDALtd's P/E, if not its share price lately. 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.
Our examination of GUILIN FUDALtd 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. 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.
And what about other risks? Every company has them, and we've spotted 3 warning signs for GUILIN FUDALtd (of which 1 can't be ignored!) you should know about.
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.