Some Confidence Is Lacking In King's Town Construction Co., Ltd. (TWSE:2524) As Shares Slide 28%

The King's Town Construction Co., Ltd. (TWSE:2524) share price has softened a substantial 28% over the previous 30 days, handing back much of the gains the stock has made lately. Of course, over the longer-term many would still wish they owned shares as the stock's price has soared 183% in the last twelve months.

In spite of the heavy fall in price, King's Town Construction may still be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 34.1x, since almost half of all companies in Taiwan have P/E ratios under 21x and even P/E's lower than 14x are not unusual. However, the P/E might be quite high for a reason and it requires further investigation to determine if it's justified.

With earnings growth that's exceedingly strong of late, King's Town Construction has been doing very well. It seems that many are expecting the strong 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 might be a little nervous about the viability of the share price.

See our latest analysis for King's Town Construction

Although there are no analyst estimates available for King's Town Construction, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

What Are Growth Metrics Telling Us About The High P/E?

In order to justify its P/E ratio, King's Town Construction would need to produce outstanding growth well in excess of the market.

Retrospectively, the last year delivered an exceptional 35% gain to the company's bottom line. However, this wasn't enough as the latest three year period has seen a very unpleasant 47% drop in EPS in aggregate. 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 24% 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 King's Town Construction 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 King's Town Construction's P/E

Even after such a strong price drop, King's Town Construction's P/E still exceeds the rest of the market significantly. 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 King's Town Construction 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. If recent medium-term earnings trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

You should always think about risks. Case in point, we've spotted 3 warning signs for King's Town Construction you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and 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.