Optimistic Investors Push China Tobacco International (HK) Company Limited (HKG:6055) Shares Up 50% But Growth Is Lacking

China Tobacco International (HK) Company Limited (HKG:6055) shares have had a really impressive month, gaining 50% after a shaky period beforehand. The annual gain comes to 150% following the latest surge, making investors sit up and take notice.

Since its price has surged higher, China Tobacco International (HK) may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 28.2x, since almost half of all companies in Hong Kong have P/E ratios under 10x and even P/E's lower than 6x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

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With earnings growth that's superior to most other companies of late, China Tobacco International (HK) has been doing relatively well. It seems that many are expecting the strong earnings performance to persist, which has raised the P/E. If not, then existing shareholders might be a little nervous about the viability of the share price.

See our latest analysis for China Tobacco International (HK)

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Is There Enough Growth For China Tobacco International (HK)?

The only time you'd be truly comfortable seeing a P/E as steep as China Tobacco International (HK)'s is when the company's growth is on track to outshine the market decidedly.

Taking a look back first, we see that the company grew earnings per share by an impressive 43% last year. As a result, it also grew EPS by 21% in total over the last three years. Accordingly, shareholders would have probably been satisfied with the medium-term rates of earnings growth.

Turning to the outlook, the next three years should generate growth of 12% per annum as estimated by the four analysts watching the company. With the market predicted to deliver 15% growth each year, the company is positioned for a weaker earnings result.

With this information, we find it concerning that China Tobacco International (HK) is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as this level of earnings growth is likely to weigh heavily on the share price eventually.

The Final Word

The strong share price surge has got China Tobacco International (HK)'s P/E rushing to great heights as well. 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.

Our examination of China Tobacco International (HK)'s analyst forecasts revealed that its inferior earnings outlook isn't impacting its high P/E anywhere near as much as we would have predicted. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with China Tobacco International (HK), and understanding should be part of your investment process.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with a strong growth track record, trading on 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.