Getting In Cheap On Shanxi Installation Group Co., Ltd. (HKG:2520) Is Unlikely

Shanxi Installation Group Co., Ltd.'s (HKG:2520) price-to-earnings (or "P/E") ratio of 18.2x might make it look like a strong sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 10x and even P/E's below 5x are quite common. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

We've discovered 2 warning signs about Shanxi Installation Group. View them for free.

For example, consider that Shanxi Installation Group's financial performance has been poor lately as its earnings have been in decline. 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 Shanxi Installation Group

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 Shanxi Installation Group's earnings, revenue and cash flow.

How Is Shanxi Installation Group's Growth Trending?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Shanxi Installation Group's to be considered reasonable.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 25%. As a result, earnings from three years ago have also fallen 22% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

In contrast to the company, the rest of the market is expected to grow by 18% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's alarming that Shanxi Installation Group's P/E sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the recent negative growth rates.

The Key Takeaway

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Shanxi Installation Group currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You always need to take note of risks, for example - Shanxi Installation Group has 2 warning signs we think 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.