The Fortune Ng Fung Food (Hebei) Co.,Ltd (SHSE:600965) share price has fared very poorly over the last month, falling by a substantial 30%. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 40% share price drop.
Even after such a large drop in price, Fortune Ng Fung Food (Hebei)Ltd's price-to-earnings (or "P/E") ratio of 32.5x 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 26x and even P/E's below 16x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.
As an illustration, earnings have deteriorated at Fortune Ng Fung Food (Hebei)Ltd over the last year, which is not ideal at all. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
What Are Growth Metrics Telling Us About The High P/E?
There's an inherent assumption that a company should outperform the market for P/E ratios like Fortune Ng Fung Food (Hebei)Ltd's to be considered reasonable.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 19%. This means it has also seen a slide in earnings over the longer-term as EPS is down 19% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.
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 Fortune Ng Fung Food (Hebei)Ltd 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 Final Word
Despite the recent share price weakness, Fortune Ng Fung Food (Hebei)Ltd's P/E remains higher than most other companies. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.
We've established that Fortune Ng Fung Food (Hebei)Ltd currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. 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.
You should always think about risks. Case in point, we've spotted 3 warning signs for Fortune Ng Fung Food (Hebei)Ltd you should be aware of, and 2 of them are concerning.
If these risks are making you reconsider your opinion on Fortune Ng Fung Food (Hebei)Ltd, 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.