Hangzhou Dadi Haiyang Environmental Protection Co., Ltd.'s (SZSE:301068) 30% Share Price Surge Not Quite Adding Up

Hangzhou Dadi Haiyang Environmental Protection Co., Ltd. (SZSE:301068) shareholders would be excited to see that the share price has had a great month, posting a 30% gain and recovering from prior weakness. While recent buyers may be laughing, long-term holders might not be as pleased since the recent gain only brings the stock back to where it started a year ago.

After such a large jump in price, Hangzhou Dadi Haiyang Environmental Protection may be sending bearish signals at the moment with its price-to-earnings (or "P/E") ratio of 39.7x, since almost half of all companies in China have P/E ratios under 29x and even P/E's lower than 18x are not unusual. 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.

Hangzhou Dadi Haiyang Environmental Protection has been doing a good job lately as it's been growing earnings at a solid pace. It might be that many expect the respectable earnings performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for Hangzhou Dadi Haiyang Environmental Protection

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Hangzhou Dadi Haiyang Environmental Protection will help you shine a light on its historical performance.

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

In order to justify its P/E ratio, Hangzhou Dadi Haiyang Environmental Protection would need to produce impressive growth in excess of the market.

Retrospectively, the last year delivered a decent 7.7% gain to the company's bottom line. Ultimately though, it couldn't turn around the poor performance of the prior period, with EPS shrinking 37% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Comparing that to the market, which is predicted to deliver 36% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we find it concerning that Hangzhou Dadi Haiyang Environmental Protection 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. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

What We Can Learn From Hangzhou Dadi Haiyang Environmental Protection's P/E?

Hangzhou Dadi Haiyang Environmental Protection's P/E is getting right up there since its shares have risen strongly. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Our examination of Hangzhou Dadi Haiyang Environmental Protection 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.

Plus, you should also learn about these 3 warning signs we've spotted with Hangzhou Dadi Haiyang Environmental Protection (including 1 which makes us a bit uncomfortable).

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.