The Xiamen Guang Pu Electronics Co., Ltd. (SZSE:300632) share price has done very well over the last month, posting an excellent gain of 44%. Looking further back, the 12% rise over the last twelve months isn't too bad notwithstanding the strength over the last 30 days.

Since its price has surged higher, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 33x, you may consider Xiamen Guang Pu Electronics as a stock to avoid entirely with its 72x P/E ratio. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

The earnings growth achieved at Xiamen Guang Pu Electronics over the last year would be more than acceptable for most companies. One possibility is that the P/E is high because investors think this respectable earnings growth will be 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, Xiamen Guang Pu Electronics would need to produce outstanding growth well in excess of the market.

Retrospectively, the last year delivered a decent 12% gain to the company's bottom line. However, this wasn't enough as the latest three year period has seen an unpleasant 57% overall drop in EPS. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 37% shows it's an unpleasant look.

In light of this, it's alarming that Xiamen Guang Pu Electronics' 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 very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

What We Can Learn From Xiamen Guang Pu Electronics' P/E?

Xiamen Guang Pu Electronics' 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 Xiamen Guang Pu Electronics revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It is also worth noting that we have found 4 warning signs for Xiamen Guang Pu Electronics (3 can't be ignored!) that you need to take into consideration.

If these risks are making you reconsider your opinion on Xiamen Guang Pu Electronics, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.