Fujian Yuanxiang New Materials Co.,Ltd (SZSE:301300) shares have continued their recent momentum with a 33% gain in the last month alone. Notwithstanding the latest gain, the annual share price return of 7.4% isn't as impressive.

Since its price has surged higher, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 36x, you may consider Fujian Yuanxiang New MaterialsLtd as a stock to avoid entirely with its 55.1x 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.

The recent earnings growth at Fujian Yuanxiang New MaterialsLtd would have to be considered satisfactory if not spectacular. It might be that many expect the reasonable earnings performance to beat most other companies over the coming period, which has increased investors' willingness to pay up for the stock. If not, then existing shareholders may be a little nervous about the viability of the share price.

How Is Fujian Yuanxiang New MaterialsLtd's Growth Trending?

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

Taking a look back first, we see that the company managed to grow earnings per share by a handy 6.5% last year. Still, lamentably EPS has fallen 64% in aggregate from three years ago, which is disappointing. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Comparing that to the market, which is predicted to deliver 39% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Fujian Yuanxiang New MaterialsLtd is trading at a P/E higher than the market. 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.

The Key Takeaway

Fujian Yuanxiang New MaterialsLtd's P/E is flying high just like its stock has during the last month. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

Our examination of Fujian Yuanxiang New MaterialsLtd 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.

Plus, you should also learn about these 2 warning signs we've spotted with Fujian Yuanxiang New MaterialsLtd.

You might be able to find a better investment than Fujian Yuanxiang New MaterialsLtd. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.