Guangdong Jiaying Pharmaceutical Co., Ltd (SZSE:002198) shares have had a horrible month, losing 26% after a relatively good period beforehand. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 23% share price drop.

In spite of the heavy fall in price, Guangdong Jiaying Pharmaceutical's price-to-earnings (or "P/E") ratio of 59.2x might still make it look like a strong 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. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

Guangdong Jiaying Pharmaceutical certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. 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. If not, then existing shareholders might be a little nervous about the viability of the share price.

Is There Enough Growth For Guangdong Jiaying Pharmaceutical?

The only time you'd be truly comfortable seeing a P/E as steep as Guangdong Jiaying Pharmaceutical's is when the company's growth is on track to outshine the market decidedly.

Retrospectively, the last year delivered an exceptional 144% gain to the company's bottom line. However, the latest three year period hasn't been as great in aggregate as it didn't manage to provide any growth at all. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 41% shows it's noticeably less attractive on an annualised basis.

With this information, we find it concerning that Guangdong Jiaying Pharmaceutical is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. 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 recent growth rates.

The Bottom Line On Guangdong Jiaying Pharmaceutical's P/E

Guangdong Jiaying Pharmaceutical's shares may have retreated, but its P/E is still flying high. 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 Guangdong Jiaying Pharmaceutical revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. Right now we are increasingly uncomfortable with the high P/E as this earnings performance isn't likely to support such positive sentiment for long. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Guangdong Jiaying Pharmaceutical with six simple checks.

If you're unsure about the strength of Guangdong Jiaying Pharmaceutical's 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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