Improved Earnings Required Before Nanjing Gaoke Company Limited (SHSE:600064) Stock's 25% Jump Looks Justified

Nanjing Gaoke Company Limited (SHSE:600064) shareholders would be excited to see that the share price has had a great month, posting a 25% gain and recovering from prior weakness. Looking further back, the 14% rise over the last twelve months isn't too bad notwithstanding the strength over the last 30 days.

In spite of the firm bounce in price, Nanjing Gaoke's price-to-earnings (or "P/E") ratio of 8.8x might still make it look like a strong buy right now compared to the market in China, where around half of the companies have P/E ratios above 30x and even P/E's above 58x are quite common. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

For example, consider that Nanjing Gaoke's financial performance has been poor lately as its earnings have been in decline. It might be that many expect the disappointing earnings performance to continue or accelerate, which has repressed the P/E. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

Check out our latest analysis for Nanjing Gaoke

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

How Is Nanjing Gaoke's Growth Trending?

In order to justify its P/E ratio, Nanjing Gaoke would need to produce anemic growth that's substantially trailing the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 34%. This means it has also seen a slide in earnings over the longer-term as EPS is down 30% 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.

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 are not surprised that Nanjing Gaoke is trading at a P/E lower than the market. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as recent earnings trends are already weighing down the shares.

The Bottom Line On Nanjing Gaoke's P/E

Shares in Nanjing Gaoke are going to need a lot more upward momentum to get the company's P/E out of its slump. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

As we suspected, our examination of Nanjing Gaoke 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. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

It is also worth noting that we have found 1 warning sign for Nanjing Gaoke that you need to take into consideration.

You might be able to find a better investment than Nanjing Gaoke. 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.