There's Reason For Concern Over Zero2IPO Holdings Inc.'s (HKG:1945) Price

With a price-to-earnings (or "P/E") ratio of 36.8x Zero2IPO Holdings Inc. (HKG:1945) may be sending very bearish signals at the moment, given that almost half of all companies in Hong Kong have P/E ratios under 11x and even P/E's lower than 6x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

For instance, Zero2IPO Holdings' 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.

Check out our latest analysis for Zero2IPO Holdings

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 Zero2IPO Holdings' earnings, revenue and cash flow.

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

There's an inherent assumption that a company should far outperform the market for P/E ratios like Zero2IPO Holdings' to be considered reasonable.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 8.9%. However, a few very strong years before that means that it was still able to grow EPS by an impressive 71% in total over the last three years. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.

This is in contrast to the rest of the market, which is expected to grow by 24% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we find it concerning that Zero2IPO Holdings 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. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with recent growth rates.

The Key Takeaway

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.

We've established that Zero2IPO Holdings currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. When we see weak earnings with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Having said that, be aware Zero2IPO Holdings is showing 1 warning sign in our investment analysis, you should know about.

You might be able to find a better investment than Zero2IPO Holdings. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a P/E below 20x (but have proven they can grow earnings).

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This article by Simply Wall St is general in nature. 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.
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