Optimistic Investors Push Chengdu KSW Technologies Co.,Ltd. (SHSE:688283) Shares Up 27% But Growth Is Lacking

Chengdu KSW Technologies Co.,Ltd. (SHSE:688283) shareholders would be excited to see that the share price has had a great month, posting a 27% gain and recovering from prior weakness. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 29% in the last twelve months.

Since its price has surged higher, Chengdu KSW TechnologiesLtd's price-to-earnings (or "P/E") ratio of 40.5x 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.

Chengdu KSW TechnologiesLtd certainly has been doing a good job lately as it's been growing earnings more than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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Does Growth Match The High P/E?

There's an inherent assumption that a company should outperform the market for P/E ratios like Chengdu KSW TechnologiesLtd's to be considered reasonable.

Retrospectively, the last year delivered a decent 14% gain to the company's bottom line. The latest three year period has also seen an excellent 60% overall rise in EPS, aided somewhat by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 27% per annum as estimated by the two analysts watching the company. With the market predicted to deliver 26% growth per annum, the company is positioned for a comparable earnings result.

In light of this, it's curious that Chengdu KSW TechnologiesLtd's P/E sits above the majority of other companies. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as this level of earnings growth is likely to weigh down the share price eventually.

The Final Word

The large bounce in Chengdu KSW TechnologiesLtd's shares has lifted the company's P/E to a fairly high level. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

We've established that Chengdu KSW TechnologiesLtd currently trades on a higher than expected P/E since its forecast growth is only in line with the wider market. When we see an average earnings outlook with market-like growth, we suspect the share price is at risk of declining, sending the high P/E lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

You should always think about risks. Case in point, we've spotted 1 warning sign for Chengdu KSW TechnologiesLtd you should be aware of.

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.