Henan Senyuan Electric Co., Ltd.'s (SZSE:002358) Shares Climb 28% But Its Business Is Yet to Catch Up

Henan Senyuan Electric Co., Ltd. (SZSE:002358) shares have continued their recent momentum with a 28% gain in the last month alone. Taking a wider view, although not as strong as the last month, the full year gain of 16% is also fairly reasonable.

Following the firm bounce in price, Henan Senyuan Electric's price-to-earnings (or "P/E") ratio of 39x 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 33x 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.

Henan Senyuan Electric certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. It seems that many are expecting the strong 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 might be a little nervous about the viability of the share price.

Check out our latest analysis for Henan Senyuan Electric

Although there are no analyst estimates available for Henan Senyuan Electric, 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?

The only time you'd be truly comfortable seeing a P/E as high as Henan Senyuan Electric's is when the company's growth is on track to outshine the market.

If we review the last year of earnings growth, the company posted a terrific increase of 86%. Although, its longer-term performance hasn't been as strong with three-year EPS growth being relatively non-existent overall. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 42% shows it's noticeably less attractive on an annualised basis.

With this information, we find it concerning that Henan Senyuan Electric is trading at a P/E higher than the market. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with recent growth rates.

The Key Takeaway

The large bounce in Henan Senyuan Electric's shares has lifted the company's P/E to a fairly high level. 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.

Our examination of Henan Senyuan Electric revealed its three-year earnings trends aren't impacting its high P/E anywhere near as much as we would have predicted, given they look worse than current market expectations. When we see weak earnings with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

We don't want to rain on the parade too much, but we did also find 1 warning sign for Henan Senyuan Electric that you need to be mindful of.

If you're unsure about the strength of Henan Senyuan Electric's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.