Improved Earnings Required Before Changhong Jiahua Holdings Limited (HKG:3991) Stock's 40% Jump Looks Justified

Changhong Jiahua Holdings Limited (HKG:3991) shares have continued their recent momentum with a 40% gain in the last month alone. The last 30 days bring the annual gain to a very sharp 36%.

Although its price has surged higher, Changhong Jiahua Holdings' price-to-earnings (or "P/E") ratio of 4.7x might still make it look like a strong buy right now compared to the market in Hong Kong, where around half of the companies have P/E ratios above 10x and even P/E's above 20x are quite common. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

For example, consider that Changhong Jiahua Holdings' financial performance has been pretty ordinary lately as earnings growth is non-existent. It might be that many expect the uninspiring earnings performance to worsen, which has repressed the P/E. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

View our latest analysis for Changhong Jiahua Holdings

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

Is There Any Growth For Changhong Jiahua Holdings?

In order to justify its P/E ratio, Changhong Jiahua Holdings would need to produce anemic growth that's substantially trailing the market.

If we review the last year of earnings, the company posted a result that saw barely any deviation from a year ago. Whilst it's an improvement, it wasn't enough to get the company out of the hole it was in, with earnings down 5.5% overall from three years ago. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Comparing that to the market, which is predicted to deliver 23% growth in the next 12 months, the company's downward momentum based on recent medium-term earnings results is a sobering picture.

With this information, we are not surprised that Changhong Jiahua Holdings is trading at a P/E lower than the market. However, we think shrinking earnings are unlikely to lead to a stable P/E over the longer term, which could set up shareholders for future disappointment. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Final Word

Even after such a strong price move, Changhong Jiahua Holdings' P/E still trails the rest of the market significantly. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

As we suspected, our examination of Changhong Jiahua Holdings revealed its shrinking earnings over the medium-term are contributing to its low P/E, given the market is set to grow. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. If recent medium-term earnings trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

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

If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.