With a price-to-earnings (or "P/E") ratio of 38.2x Ecovacs Robotics Co., Ltd. (SHSE:603486) may be sending bearish signals at the moment, given that almost half of all companies in China have P/E ratios under 27x and even P/E's lower than 16x are not unusual. 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.

Ecovacs Robotics hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Does Growth Match The High P/E?

Ecovacs Robotics' P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Retrospectively, the last year delivered a frustrating 64% decrease to the company's bottom line. This means it has also seen a slide in earnings over the longer-term as EPS is down 39% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 49% per year as estimated by the analysts watching the company. That's shaping up to be materially higher than the 24% per year growth forecast for the broader market.

With this information, we can see why Ecovacs Robotics is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Bottom Line On Ecovacs Robotics' P/E

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.

As we suspected, our examination of Ecovacs Robotics' analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

Don't forget that there may be other risks. For instance, we've identified 3 warning signs for Ecovacs Robotics that you should be aware of.

If you're unsure about the strength of Ecovacs Robotics' 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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