Hengan International Group Company Limited's (HKG:1044) Popularity With Investors Is Under Threat From Overpricing

There wouldn't be many who think Hengan International Group Company Limited's (HKG:1044) price-to-earnings (or "P/E") ratio of 11x is worth a mention when the median P/E in Hong Kong is similar at about 12x. 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.

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Hengan International Group 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 strengthen positively, which has kept the P/E from falling. You'd really hope so, otherwise you're paying a relatively elevated price for a company with this sort of growth profile.

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How Is Hengan International Group's Growth Trending?

The only time you'd be comfortable seeing a P/E like Hengan International Group's is when the company's growth is tracking the market closely.

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 17%. As a result, earnings from three years ago have also fallen 29% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 3.2% per annum during the coming three years according to the analysts following the company. With the market predicted to deliver 15% growth per year, the company is positioned for a weaker earnings result.

In light of this, it's curious that Hengan International Group's P/E sits in line with the majority of other companies. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. Maintaining these prices will be difficult to achieve as this level of earnings growth is likely to weigh down the shares eventually.

The Final Word

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 Hengan International Group 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.

You always need to take note of risks, for example - Hengan International Group has 1 warning sign we think you should be aware of.

If these risks are making you reconsider your opinion on Hengan International Group, 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.