Edensoft Holdings Limited's (HKG:1147) Shares Climb 31% But Its Business Is Yet to Catch Up

Despite an already strong run, Edensoft Holdings Limited (HKG:1147) shares have been powering on, with a gain of 31% in the last thirty days. Looking back a bit further, it's encouraging to see the stock is up 66% in the last year.

Since its price has surged higher, given close to half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") below 11x, you may consider Edensoft Holdings as a stock to avoid entirely with its 26.6x P/E ratio. 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 3 warning signs about Edensoft Holdings. View them for free.

Recent times have been quite advantageous for Edensoft Holdings as its earnings have been rising very briskly. The P/E is probably high because investors think this strong earnings growth will be 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 Edensoft Holdings

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Edensoft Holdings will help you shine a light on its historical performance.

Is There Enough Growth For Edensoft Holdings?

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

Retrospectively, the last year delivered an exceptional 31% gain to the company's bottom line. Still, incredibly EPS has fallen 59% in total from three years ago, which is quite disappointing. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

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.

With this information, we find it concerning that Edensoft Holdings is trading at a P/E higher than the market. 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 Bottom Line On Edensoft Holdings' P/E

The strong share price surge has got Edensoft Holdings' 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 Edensoft Holdings revealed its shrinking earnings over the medium-term aren't impacting its high P/E anywhere near as much as we would have predicted, given the market is set to grow. When we see earnings heading backwards and underperforming the market forecasts, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

There are also other vital risk factors to consider and we've discovered 3 warning signs for Edensoft Holdings (2 are potentially serious!) that you should be aware of before investing here.

If these risks are making you reconsider your opinion on Edensoft Holdings, explore our interactive list of high quality stocks to get an idea of what else is out there.

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

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.