Unfortunately for some shareholders, the Xinhuanet Co., Ltd. (SHSE:603888) share price has dived 26% in the last thirty days, prolonging recent pain. The recent drop has obliterated the annual return, with the share price now down 6.6% over that longer period.

In spite of the heavy fall in price, given around half the companies in China have price-to-earnings ratios (or "P/E's") below 26x, you may still consider Xinhuanet as a stock to potentially avoid with its 36x P/E ratio. 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.

The earnings growth achieved at Xinhuanet over the last year would be more than acceptable for most companies. 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.

Is There Enough Growth For Xinhuanet?

The only time you'd be truly comfortable seeing a P/E as high as Xinhuanet's is when the company's growth is on track to outshine the market.

Retrospectively, the last year delivered a decent 10% gain to the company's bottom line. The latest three year period has also seen an excellent 90% overall rise in EPS, aided somewhat by its short-term performance. So we can start by confirming that the company has done a great job of growing earnings over that time.

This is in contrast to the rest of the market, which is expected to grow by 41% over the next year, materially higher than the company's recent medium-term annualised growth rates.

In light of this, it's alarming that Xinhuanet'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.

What We Can Learn From Xinhuanet's P/E?

Xinhuanet's P/E hasn't come down all the way after its stock plunged. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Xinhuanet currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. 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.

There are also other vital risk factors to consider and we've discovered 4 warning signs for Xinhuanet (1 is significant!) that you should be aware of before investing here.

You might be able to find a better investment than Xinhuanet. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.