Shenzhen Megmeet Electrical Co., LTD's (SZSE:002851) 30% Share Price Surge Not Quite Adding Up

Despite an already strong run, Shenzhen Megmeet Electrical Co., LTD (SZSE:002851) shares have been powering on, with a gain of 30% in the last thirty days. Looking back a bit further, it's encouraging to see the stock is up 67% in the last year.

Since its price has surged higher, given around half the companies in China have price-to-earnings ratios (or "P/E's") below 34x, you may consider Shenzhen Megmeet Electrical as a stock to potentially avoid with its 41.3x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's as high as it is.

Recent times haven't been advantageous for Shenzhen Megmeet Electrical as its earnings have been falling quicker than most other companies. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. If not, then existing shareholders may be very nervous about the viability of the share price.

See our latest analysis for Shenzhen Megmeet Electrical

Want the full picture on analyst estimates for the company? Then our free report on Shenzhen Megmeet Electrical will help you uncover what's on the horizon.

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

Shenzhen Megmeet Electrical's P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 14%. This has soured the latest three-year period, which nevertheless managed to deliver a decent 19% overall rise in EPS. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 40% during the coming year according to the five analysts following the company. That's shaping up to be similar to the 40% growth forecast for the broader market.

In light of this, it's curious that Shenzhen Megmeet Electrical's P/E sits above the majority of other companies. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

The Final Word

The large bounce in Shenzhen Megmeet Electrical's shares has lifted the company's P/E to a fairly high level. 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.

We've established that Shenzhen Megmeet Electrical currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

There are also other vital risk factors to consider before investing and we've discovered 2 warning signs for Shenzhen Megmeet Electrical that you should be aware of.

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

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.