Unpleasant Surprises Could Be In Store For ShenZhen GAD Environmental Technology Co., Ltd.'s (SZSE:300854) Shares

ShenZhen GAD Environmental Technology Co., Ltd.'s (SZSE:300854) price-to-earnings (or "P/E") ratio of 53x 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 37x and even P/E's below 21x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

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Earnings have risen at a steady rate over the last year for ShenZhen GAD Environmental Technology, which is generally not a bad outcome. One possibility is that the P/E is high because investors think this good earnings growth will be enough to outperform the broader market in the near future. If not, then existing shareholders may be a little nervous about the viability of the share price.

See our latest analysis for ShenZhen GAD Environmental Technology

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

Is There Enough Growth For ShenZhen GAD Environmental Technology?

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

Retrospectively, the last year delivered a decent 5.3% gain to the company's bottom line. However, this wasn't enough as the latest three year period has seen an unpleasant 86% overall drop in EPS. 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.

With this information, we find it concerning that ShenZhen GAD Environmental Technology is trading at a P/E higher than the market. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. 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.

The Key Takeaway

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 ShenZhen GAD Environmental Technology 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.

And what about other risks? Every company has them, and we've spotted 3 warning signs for ShenZhen GAD Environmental Technology (of which 1 shouldn't be ignored!) you should know about.

You might be able to find a better investment than ShenZhen GAD Environmental Technology. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.