Longmaster Information & Technology Co., Ltd. (SZSE:300288) shareholders are no doubt pleased to see that the share price has bounced 29% in the last month, although it is still struggling to make up recently lost ground. Notwithstanding the latest gain, the annual share price return of 8.1% isn't as impressive.

Following the firm bounce in price, Longmaster Information & Technology may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 69x, since almost half of all companies in China have P/E ratios under 30x and even P/E's lower than 18x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

Longmaster Information & Technology has been doing a good job lately as it's been growing earnings at a solid pace. 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Does Growth Match The High P/E?

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

Retrospectively, the last year delivered a decent 11% gain to the company's bottom line. Pleasingly, EPS has also lifted 49% in aggregate from three years ago, partly thanks to the last 12 months of growth. 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 42% over the next year, materially higher than the company's recent medium-term annualised growth rates.

In light of this, it's alarming that Longmaster Information & Technology'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. 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 Final Word

Longmaster Information & Technology's P/E is flying high just like its stock has during the last month. 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 Longmaster Information & Technology 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. When we see weak earnings with slower than market growth, 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.

It is also worth noting that we have found 2 warning signs for Longmaster Information & Technology (1 makes us a bit uncomfortable!) that you need to take into consideration.

If these risks are making you reconsider your opinion on Longmaster Information & Technology, explore our interactive list of high quality stocks to get an idea of what else is out there.

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