Shanghai Yizhong Pharmaceutical Co., Ltd. (SHSE:688091) shares have continued their recent momentum with a 26% gain in the last month alone. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 34% over that time.

Following the firm bounce in price, Shanghai Yizhong Pharmaceutical may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 67.3x, since almost half of all companies in China have P/E ratios under 28x and even P/E's lower than 17x 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 so lofty.

For instance, Shanghai Yizhong Pharmaceutical's receding earnings in recent times would have to be some food for thought. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Does Growth Match The High P/E?

In order to justify its P/E ratio, Shanghai Yizhong Pharmaceutical would need to produce outstanding growth well in excess of the market.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 60%. This has erased any of its gains during the last three years, with practically no change in EPS being achieved in total. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 36% shows it's noticeably less attractive on an annualised basis.

With this information, we find it concerning that Shanghai Yizhong Pharmaceutical is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. 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

The strong share price surge has got Shanghai Yizhong Pharmaceutical's P/E rushing to great heights as well. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

Our examination of Shanghai Yizhong Pharmaceutical 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 3 warning signs for Shanghai Yizhong Pharmaceutical that you need to take into consideration.

Of course, you might also be able to find a better stock than Shanghai Yizhong Pharmaceutical. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.