Shanghai Emperor of Cleaning Hi-Tech Co., Ltd (SHSE:603200) shares have had a really impressive month, gaining 30% after a shaky period beforehand. The last 30 days bring the annual gain to a very sharp 56%.

Since its price has surged higher, given close to half the companies in China have price-to-earnings ratios (or "P/E's") below 33x, you may consider Shanghai Emperor of Cleaning Hi-Tech as a stock to avoid entirely with its 71.5x P/E ratio. 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, Shanghai Emperor of Cleaning Hi-Tech has been doing very well. The P/E is probably high because investors think this strong earnings growth will be enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

See our latest analysis for Shanghai Emperor of Cleaning Hi-Tech

Is There Enough Growth For Shanghai Emperor of Cleaning Hi-Tech?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Shanghai Emperor of Cleaning Hi-Tech's to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 86%. However, this wasn't enough as the latest three year period has seen a very unpleasant 48% 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 37% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's alarming that Shanghai Emperor of Cleaning Hi-Tech's P/E sits above the majority of other companies. 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.

What We Can Learn From Shanghai Emperor of Cleaning Hi-Tech's P/E?

Shanghai Emperor of Cleaning Hi-Tech's P/E is flying high just like its stock has during the last month. While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

Our examination of Shanghai Emperor of Cleaning Hi-Tech 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. 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.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Shanghai Emperor of Cleaning Hi-Tech that you should be aware of.

If P/E ratios interest you, you may wish to see this free collection of other companies that have grown earnings strongly and trade on P/E's below 20x.

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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.