There's Reason For Concern Over Topchoice Medical Co., Inc.'s (SHSE:600763) Massive 27% Price Jump

Topchoice Medical Co., Inc. (SHSE:600763) shareholders would be excited to see that the share price has had a great month, posting a 27% gain and recovering from prior weakness. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 43% over that time.

After such a large jump in price, Topchoice Medical's price-to-earnings (or "P/E") ratio of 42.8x 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 32x and even P/E's below 20x are quite common. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

While the market has experienced earnings growth lately, Topchoice Medical's earnings have gone into reverse gear, which is not great. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Topchoice Medical

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

Does Growth Match The High P/E?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 8.4%. As a result, earnings from three years ago have also fallen 25% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next three years should generate growth of 16% each year as estimated by the twelve analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 26% each year, which is noticeably more attractive.

In light of this, it's alarming that Topchoice Medical's P/E sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Bottom Line On Topchoice Medical's P/E

Topchoice Medical shares have received a push in the right direction, but its P/E is elevated too. 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.

We've established that Topchoice Medical currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

And what about other risks? Every company has them, and we've spotted 1 warning sign for Topchoice Medical you should know about.

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.