Improved Earnings Required Before YouYou Foods Co., Ltd. (SHSE:603697) Stock's 25% Jump Looks Justified

YouYou Foods Co., Ltd. (SHSE:603697) shares have continued their recent momentum with a 25% gain in the last month alone. Unfortunately, despite the strong performance over the last month, the full year gain of 4.2% isn't as attractive.

Even after such a large jump in price, YouYou Foods' price-to-earnings (or "P/E") ratio of 28.3x might still make it look like a buy right now compared to the market in China, where around half of the companies have P/E ratios above 34x and even P/E's above 67x are quite common. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

For example, consider that YouYou Foods' financial performance has been poor lately as its earnings have been in decline. One possibility is that the P/E is low because investors think the company won't do enough to avoid underperforming the broader market in the near future. However, if this doesn't eventuate then existing shareholders may be feeling optimistic about the future direction of the share price.

See our latest analysis for YouYou Foods

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

Does Growth Match The Low P/E?

There's an inherent assumption that a company should underperform the market for P/E ratios like YouYou Foods' to be considered reasonable.

Retrospectively, the last year delivered a frustrating 18% decrease to the company's bottom line. This means it has also seen a slide in earnings over the longer-term as EPS is down 41% in total over the last three years. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 41% shows it's an unpleasant look.

With this information, we are not surprised that YouYou Foods is trading at a P/E lower than the market. However, we think shrinking earnings are unlikely to lead to a stable P/E over the longer term, which could set up shareholders for future disappointment. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Final Word

YouYou Foods' stock might have been given a solid boost, but its P/E certainly hasn't reached any great heights. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

As we suspected, our examination of YouYou Foods revealed its shrinking earnings over the medium-term are contributing to its low P/E, given the market is set to grow. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. If recent medium-term earnings trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

Plus, you should also learn about these 2 warning signs we've spotted with YouYou Foods.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on 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.