China Mengniu Dairy Company Limited's (HKG:2319) Business Is Trailing The Market But Its Shares Aren't

With a median price-to-earnings (or "P/E") ratio of close to 9x in Hong Kong, you could be forgiven for feeling indifferent about China Mengniu Dairy Company Limited's (HKG:2319) P/E ratio of 9.4x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

China Mengniu Dairy could be doing better as its earnings have been going backwards lately while most other companies have been seeing positive earnings growth. It might be that many expect the dour earnings performance to strengthen positively, which has kept the P/E from falling. If not, then existing shareholders may be a little nervous about the viability of the share price.

See our latest analysis for China Mengniu Dairy

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Does Growth Match The P/E?

In order to justify its P/E ratio, China Mengniu Dairy would need to produce growth that's similar to the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 9.1%. Even so, admirably EPS has lifted 36% in aggregate from three years ago, notwithstanding the last 12 months. 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.

Shifting to the future, estimates from the analysts covering the company suggest earnings should grow by 11% per year over the next three years. Meanwhile, the rest of the market is forecast to expand by 15% each year, which is noticeably more attractive.

In light of this, it's curious that China Mengniu Dairy's P/E sits in line with the majority of other companies. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

What We Can Learn From China Mengniu Dairy's P/E?

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 China Mengniu Dairy currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. Right now we are uncomfortable with the P/E as the predicted future earnings aren't likely to support a more positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for China Mengniu Dairy that 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.

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