Shenzhen Strongteam Decoration Engineering Co., Ltd. (SZSE:002989) shareholders won't be pleased to see that the share price has had a very rough month, dropping 26% and undoing the prior period's positive performance. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 29% share price drop.

In spite of the heavy fall in price, Shenzhen Strongteam Decoration Engineering's price-to-earnings (or "P/E") ratio of 37.6x might still make it look like a sell right now compared to the market in China, where around half of the companies have P/E ratios below 27x and even P/E's below 17x 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 as high as it is.

Recent times have been quite advantageous for Shenzhen Strongteam Decoration Engineering as its earnings have been rising very briskly. It seems that many are expecting the strong earnings performance to beat most other companies over the coming period, which has increased investors' willingness to pay up for the stock. 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 Shenzhen Strongteam Decoration Engineering's to be considered reasonable.

Taking a look back first, we see that the company grew earnings per share by an impressive 52% last year. However, this wasn't enough as the latest three year period has seen a very unpleasant 74% drop in EPS in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

In contrast to the company, the rest of the market is expected to grow by 41% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

With this information, we find it concerning that Shenzhen Strongteam Decoration Engineering is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. There's a very 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.

What We Can Learn From Shenzhen Strongteam Decoration Engineering's P/E?

There's still some solid strength behind Shenzhen Strongteam Decoration Engineering's P/E, if not its share price lately. 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 Shenzhen Strongteam Decoration Engineering 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 Shenzhen Strongteam Decoration Engineering (of which 1 is a bit unpleasant!) you should know about.

If these risks are making you reconsider your opinion on Shenzhen Strongteam Decoration Engineering, 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.