Why Investors Shouldn't Be Surprised By Digital China Holdings Limited's (HKG:861) P/E

When close to half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") below 8x, you may consider Digital China Holdings Limited (HKG:861) as a stock to avoid entirely with its 23.9x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

Recent times haven't been advantageous for Digital China Holdings as its earnings have been falling quicker than most other companies. One possibility is that the P/E is high because investors think the company will turn things around completely and accelerate past most others in the market. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Check out our latest analysis for Digital China Holdings

Keen to find out how analysts think Digital China Holdings' future stacks up against the industry? In that case, our free report is a great place to start.

Is There Enough Growth For Digital China Holdings?

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

Retrospectively, the last year delivered a frustrating 73% decrease to the company's bottom line. As a result, earnings from three years ago have also fallen 68% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Turning to the outlook, the next three years should generate growth of 52% per annum as estimated by the two analysts watching the company. Meanwhile, the rest of the market is forecast to only expand by 15% per annum, which is noticeably less attractive.

In light of this, it's understandable that Digital China Holdings' P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Bottom Line On Digital China Holdings' P/E

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 Digital China Holdings maintains its high P/E on the strength of its forecast growth being higher than the wider market, as expected. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

Before you settle on your opinion, we've discovered 2 warning signs for Digital China Holdings that you should be aware of.

Of course, you might also be able to find a better stock than Digital China Holdings. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.