Man Wah Holdings Limited (HKG:1999) shareholders would be excited to see that the share price has had a great month, posting a 26% 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 22% over that time.

After such a large jump in price, Man Wah Holdings may be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 11.1x, since almost half of all companies in Hong Kong have P/E ratios under 8x and even P/E's lower than 4x are not unusual. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

With earnings that are retreating more than the market's of late, Man Wah Holdings has been very sluggish. It might be that many expect the dismal earnings performance to recover substantially, 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.

Does Growth Match The High P/E?

There's an inherent assumption that a company should outperform the market for P/E ratios like Man Wah Holdings' to be considered reasonable.

Retrospectively, the last year delivered a frustrating 16% decrease to the company's bottom line. Regardless, EPS has managed to lift by a handy 14% in aggregate from three years ago, thanks to the earlier period of growth. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been mostly respectable for the company.

Looking ahead now, EPS is anticipated to climb by 13% each year during the coming three years according to the analysts following the company. With the market predicted to deliver 15% growth per annum, the company is positioned for a comparable earnings result.

With this information, we find it interesting that Man Wah Holdings is trading at a high P/E compared to the market. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for disappointment if the P/E falls to levels more in line with the growth outlook.

The Key Takeaway

Man Wah Holdings' P/E is getting right up there since its shares have risen strongly. 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 Man Wah Holdings' analyst forecasts revealed that its market-matching earnings outlook isn't impacting its high P/E as much as we would have predicted. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

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

If you're unsure about the strength of Man Wah Holdings' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.