Risks To Shareholder Returns Are Elevated At These Prices For Lan Fa Textile Co., Ltd. (TWSE:1459)

When close to half the companies in Taiwan have price-to-earnings ratios (or "P/E's") below 21x, you may consider Lan Fa Textile Co., Ltd. (TWSE:1459) as a stock to potentially avoid with its 28.6x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

The earnings growth achieved at Lan Fa Textile over the last year would be more than acceptable for most companies. It might be that many expect the respectable earnings performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. If not, then existing shareholders may be a little nervous about the viability of the share price.

Check out our latest analysis for Lan Fa Textile

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Lan Fa Textile's earnings, revenue and cash flow.

Does Growth Match The High P/E?

The only time you'd be truly comfortable seeing a P/E as high as Lan Fa Textile's is when the company's growth is on track to outshine the market.

Retrospectively, the last year delivered a decent 14% gain to the company's bottom line. However, this wasn't enough as the latest three year period has seen an unpleasant 83% overall drop in EPS. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 25% shows it's an unpleasant look.

With this information, we find it concerning that Lan Fa Textile is trading at a P/E higher than the market. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. 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 Key Takeaway

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 Lan Fa Textile currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. Right now we are increasingly uncomfortable with the high P/E as this earnings performance is highly unlikely to support such positive sentiment for long. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Plus, you should also learn about this 1 warning sign we've spotted with Lan Fa Textile.

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.