Guoguang Electric Co.,Ltd.Chengdu's (SHSE:688776) 32% Share Price Surge Not Quite Adding Up

Guoguang Electric Co.,Ltd.Chengdu (SHSE:688776) shareholders are no doubt pleased to see that the share price has bounced 32% in the last month, although it is still struggling to make up recently lost ground. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 38% over that time.

Following the firm bounce in price, Guoguang ElectricLtd.Chengdu's price-to-earnings (or "P/E") ratio of 60.9x might make it look like a strong sell right now compared to the market in China, where around half of the companies have P/E ratios below 29x and even P/E's below 18x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

For instance, Guoguang ElectricLtd.Chengdu'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.

View our latest analysis for Guoguang ElectricLtd.Chengdu

Although there are no analyst estimates available for Guoguang ElectricLtd.Chengdu, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

How Is Guoguang ElectricLtd.Chengdu's Growth Trending?

Guoguang ElectricLtd.Chengdu's P/E ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the market.

Retrospectively, the last year delivered a frustrating 9.6% decrease to the company's bottom line. The last three years don't look nice either as the company has shrunk EPS by 45% in aggregate. 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 36% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

In light of this, it's alarming that Guoguang ElectricLtd.Chengdu's P/E sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. 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 Final Word

Shares in Guoguang ElectricLtd.Chengdu have built up some good momentum lately, which has really inflated its 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.

Our examination of Guoguang ElectricLtd.Chengdu 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. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. 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.

Before you take the next step, you should know about the 2 warning signs for Guoguang ElectricLtd.Chengdu (1 is a bit concerning!) that we have uncovered.

If these risks are making you reconsider your opinion on Guoguang ElectricLtd.Chengdu, 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.