China Baoan Group Co., Ltd.'s (SZSE:000009) 26% Price Boost Is Out Of Tune With Earnings

China Baoan Group Co., Ltd. (SZSE:000009) shareholders would be excited to see that the share price has had a great month, posting a 26% gain and recovering from prior weakness. The bad news is that even after the stocks recovery in the last 30 days, shareholders are still underwater by about 7.8% over the last year.

After such a large jump in price, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 29x, you may consider China Baoan Group as a stock to avoid entirely with its 53.8x 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.

For instance, China Baoan Group'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.

Check out our latest analysis for China Baoan Group

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

What Are Growth Metrics Telling Us About The High P/E?

There's an inherent assumption that a company should far outperform the market for P/E ratios like China Baoan Group's to be considered reasonable.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 63%. This means it has also seen a slide in earnings over the longer-term as EPS is down 62% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

In contrast to the company, the rest of the market is expected to grow by 36% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's alarming that China Baoan Group's 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. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

What We Can Learn From China Baoan Group's P/E?

Shares in China Baoan Group 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 China Baoan Group 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.

Before you take the next step, you should know about the 1 warning sign for China Baoan Group that we have uncovered.

Of course, you might also be able to find a better stock than China Baoan Group. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.