The Market Lifts Yum China Holdings, Inc. (NYSE:YUMC) Shares 31% But It Can Do More

Despite an already strong run, Yum China Holdings, Inc. (NYSE:YUMC) shares have been powering on, with a gain of 31% in the last thirty days. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 21% over that time.

Even after such a large jump in price, it's still not a stretch to say that Yum China Holdings' price-to-earnings (or "P/E") ratio of 19.9x right now seems quite "middle-of-the-road" compared to the market in the United States, where the median P/E ratio is around 18x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Yum China Holdings has been doing quite well of late. One possibility is that the P/E is moderate because investors think the company's earnings will be less resilient moving forward. 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 not quite in favour.

See our latest analysis for Yum China Holdings

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

The only time you'd be comfortable seeing a P/E like Yum China Holdings' is when the company's growth is tracking the market closely.

Retrospectively, the last year delivered an exceptional 17% gain to the company's bottom line. However, this wasn't enough as the latest three year period has seen a very unpleasant 9.4% drop in EPS in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 14% per annum during the coming three years according to the analysts following the company. Meanwhile, the rest of the market is forecast to only expand by 10% each year, which is noticeably less attractive.

In light of this, it's curious that Yum China Holdings' P/E sits in line with the majority of other companies. Apparently some shareholders are skeptical of the forecasts and have been accepting lower selling prices.

The Key Takeaway

Yum China Holdings appears to be back in favour with a solid price jump getting its P/E back in line with most other companies. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

Our examination of Yum China Holdings' analyst forecasts revealed that its superior earnings outlook isn't contributing to its P/E as much as we would have predicted. When we see a strong earnings outlook with faster-than-market growth, we assume potential risks are what might be placing pressure on the P/E ratio. It appears some are indeed anticipating earnings instability, because these conditions should normally provide a boost to the share price.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Yum China Holdings, and understanding should be part of your investment process.

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

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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.