Wenfeng Great World Chain Development Corporation's (SHSE:601010) 32% Share Price Surge Not Quite Adding Up

Wenfeng Great World Chain Development Corporation (SHSE:601010) shares have continued their recent momentum with a 32% gain in the last month alone. Taking a wider view, although not as strong as the last month, the full year gain of 22% is also fairly reasonable.

Since its price has surged higher, given around half the companies in China have price-to-earnings ratios (or "P/E's") below 36x, you may consider Wenfeng Great World Chain Development as a stock to potentially avoid with its 46.6x P/E ratio. However, the P/E might be high for a reason and it requires further investigation to determine if it's justified.

For instance, Wenfeng Great World Chain Development's receding earnings in recent times would have to be some food for thought. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Wenfeng Great World Chain Development

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Wenfeng Great World Chain Development's earnings, revenue and cash flow.

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as high as Wenfeng Great World Chain Development'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 35%. The last three years don't look nice either as the company has shrunk EPS by 65% in aggregate. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Comparing that to the market, which is predicted to deliver 39% 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 Wenfeng Great World Chain Development is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. 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

The large bounce in Wenfeng Great World Chain Development's shares has lifted the company's P/E to a fairly high level. 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.

We've established that Wenfeng Great World Chain Development currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. 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. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Wenfeng Great World Chain Development that you should be aware of.

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.