Unpleasant Surprises Could Be In Store For Hangzhou Honghua Digital Technology Stock Company LTD.'s (SHSE:688789) Shares

Hangzhou Honghua Digital Technology Stock Company LTD.'s (SHSE:688789) price-to-earnings (or "P/E") ratio of 37.5x might make it look like a sell right now compared to the market in China, where around half of the companies have P/E ratios below 31x and even P/E's below 19x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

Recent times have been pleasing for Hangzhou Honghua Digital Technology Stock as its earnings have risen in spite of the market's earnings going into reverse. The P/E is probably high because investors think the company will continue to navigate the broader market headwinds better than most. If not, then existing shareholders might be a little nervous about the viability of the share price.

View our latest analysis for Hangzhou Honghua Digital Technology Stock

Want the full picture on analyst estimates for the company? Then our free report on Hangzhou Honghua Digital Technology Stock will help you uncover what's on the horizon.

How Is Hangzhou Honghua Digital Technology Stock's Growth Trending?

Hangzhou Honghua Digital Technology Stock's P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Retrospectively, the last year delivered an exceptional 27% gain to the company's bottom line. The latest three year period has also seen an excellent 34% overall rise in EPS, aided by its short-term performance. So we can start by confirming that the company has done a great job of growing earnings over that time.

Turning to the outlook, the next year should generate growth of 28% as estimated by the three analysts watching the company. That's shaping up to be materially lower than the 40% growth forecast for the broader market.

With this information, we find it concerning that Hangzhou Honghua Digital Technology Stock is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

What We Can Learn From Hangzhou Honghua Digital Technology Stock's P/E?

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.

We've established that Hangzhou Honghua Digital Technology Stock currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Hangzhou Honghua Digital Technology Stock with six simple checks.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.