Shanghai Xujiahui Commercial Co., Ltd. (SZSE:002561) shareholders won't be pleased to see that the share price has had a very rough month, dropping 28% 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 31% share price drop.

Although its price has dipped substantially, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 26x, you may still consider Shanghai Xujiahui Commercial as a stock to avoid entirely with its 54.8x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

Earnings have risen firmly for Shanghai Xujiahui Commercial recently, which is pleasing to see. It might be that many expect the respectable 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 may be a little nervous about the viability of the share price.

Does Growth Match The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Shanghai Xujiahui Commercial's to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 24%. However, this wasn't enough as the latest three year period has seen a very unpleasant 54% 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.

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.

In light of this, it's alarming that Shanghai Xujiahui Commercial's P/E sits above the majority of other companies. 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. 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 Bottom Line On Shanghai Xujiahui Commercial's P/E

A significant share price dive has done very little to deflate Shanghai Xujiahui Commercial's very lofty 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.

We've established that Shanghai Xujiahui Commercial currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. 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. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Before you settle on your opinion, we've discovered 3 warning signs for Shanghai Xujiahui Commercial (2 are significant!) that you should be aware of.

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

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.