What You Can Learn From DongHua Testing Technology Co. , Ltd.'s (SZSE:300354) P/E

When close to half the companies in China have price-to-earnings ratios (or "P/E's") below 27x, you may consider DongHua Testing Technology Co. , Ltd. (SZSE:300354) as a stock to avoid entirely with its 44.2x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

DongHua Testing Technology hasn't been tracking well recently as its declining earnings compare poorly to other companies, which have seen some growth on average. 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.

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What Are Growth Metrics Telling Us About The High P/E?

The only time you'd be truly comfortable seeing a P/E as steep as DongHua Testing Technology's is when the company's growth is on track to outshine the market decidedly.

Retrospectively, the last year delivered a frustrating 18% decrease to the company's bottom line. Still, the latest three year period has seen an excellent 106% overall rise in EPS, in spite of its unsatisfying short-term performance. Accordingly, while they would have preferred to keep the run going, shareholders would probably welcome the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 45% per year during the coming three years according to the three analysts following the company. Meanwhile, the rest of the market is forecast to only expand by 24% per year, which is noticeably less attractive.

In light of this, it's understandable that DongHua Testing Technology's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Bottom Line On DongHua Testing Technology's P/E

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.

As we suspected, our examination of DongHua Testing Technology's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.

You always need to take note of risks, for example - DongHua Testing Technology has 1 warning sign we think you should be aware of.

If these risks are making you reconsider your opinion on DongHua Testing Technology, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com