Qingdao Greensum Ecology Co., Ltd. (SZSE:300948) shareholders that were waiting for something to happen have been dealt a blow with a 28% share price drop in the last month. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 20% share price drop.

Although its price has dipped substantially, it's still not a stretch to say that Qingdao Greensum Ecology's price-to-earnings (or "P/E") ratio of 26.4x right now seems quite "middle-of-the-road" compared to the market in China, where the median P/E ratio is around 28x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

As an illustration, earnings have deteriorated at Qingdao Greensum Ecology over the last year, which is not ideal at all. One possibility is that the P/E is moderate because investors think the company might still do enough to be in line with the broader market in the near future. If you like the company, you'd at least be hoping this is the case so that you could potentially pick up some stock while it's not quite in favour.

Is There Some Growth For Qingdao Greensum Ecology?

There's an inherent assumption that a company should be matching the market for P/E ratios like Qingdao Greensum Ecology's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 20% decrease to the company's bottom line. The last three years don't look nice either as the company has shrunk EPS by 48% in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Comparing that to the market, which is predicted to deliver 41% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Qingdao Greensum Ecology is trading at a fairly similar P/E to the market. Apparently many investors in the company are way less bearish than recent times would indicate and aren't willing to let go of their stock right now. There's a 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.

The Final Word

Following Qingdao Greensum Ecology's share price tumble, its P/E is now hanging on to the median market P/E. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

Our examination of Qingdao Greensum Ecology revealed its shrinking earnings over the medium-term aren't impacting its P/E 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 moderate P/E lower. If recent medium-term earnings trends continue, it will place 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 2 warning signs with Qingdao Greensum Ecology (at least 1 which makes us a bit uncomfortable), and understanding them should be part of your investment process.

If these risks are making you reconsider your opinion on Qingdao Greensum Ecology, 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.