With a median price-to-earnings (or "P/E") ratio of close to 29x in China, you could be forgiven for feeling indifferent about Rayhoo Motor Dies Co.,Ltd.'s (SZSE:002997) P/E ratio of 30.9x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

Rayhoo Motor DiesLtd certainly has been doing a good job lately as it's been growing earnings more than most other companies. It might be that many expect the strong earnings performance to wane, which has kept the P/E from rising. If not, then existing shareholders have reason to be feeling optimistic about the future direction of the share price.

Does Growth Match The P/E?

The only time you'd be comfortable seeing a P/E like Rayhoo Motor DiesLtd's is when the company's growth is tracking the market closely.

Taking a look back first, we see that the company grew earnings per share by an impressive 35% last year. The strong recent performance means it was also able to grow EPS by 90% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 25% per annum as estimated by the seven analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 25% per year, which is not materially different.

With this information, we can see why Rayhoo Motor DiesLtd is trading at a fairly similar P/E to the market. Apparently shareholders are comfortable to simply hold on while the company is keeping a low profile.

The Key Takeaway

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.

We've established that Rayhoo Motor DiesLtd maintains its moderate P/E off the back of its forecast growth being in line with the wider market, as expected. At this stage investors feel the potential for an improvement or deterioration in earnings isn't great enough to justify a high or low P/E ratio. Unless these conditions change, they will continue to support the share price at these levels.

There are also other vital risk factors to consider and we've discovered 3 warning signs for Rayhoo Motor DiesLtd (1 is a bit concerning!) that you should be aware of before investing here.

If you're unsure about the strength of Rayhoo Motor DiesLtd'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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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.

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