When close to half the companies in China have price-to-earnings ratios (or "P/E's") below 28x, you may consider Kaili Catalyst & New Materials Co.,Ltd. (SHSE:688269) as a stock to avoid entirely with its 47.1x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

Kaili Catalyst & New MaterialsLtd has been struggling lately as its earnings have declined faster than most other companies. It might be that many expect the dismal earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be very nervous about the viability of the share price.

Does Growth Match The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Kaili Catalyst & New MaterialsLtd's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 63% 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 60% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next year should generate growth of 304% as estimated by the one analyst watching the company. With the market only predicted to deliver 36%, the company is positioned for a stronger earnings result.

In light of this, it's understandable that Kaili Catalyst & New MaterialsLtd's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

What We Can Learn From Kaili Catalyst & New MaterialsLtd's P/E?

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

As we suspected, our examination of Kaili Catalyst & New MaterialsLtd's 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.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with Kaili Catalyst & New MaterialsLtd (at least 2 which are a bit concerning), and understanding them should be part of your investment process.

Of course, you might also be able to find a better stock than Kaili Catalyst & New MaterialsLtd. 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.