When close to half the companies in China have price-to-earnings ratios (or "P/E's") below 32x, you may consider Shenzhen Minglida Precision Technology Co., Ltd. (SZSE:301268) as a stock to potentially avoid with its 38.5x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's as high as it is.

While the market has experienced earnings growth lately, Shenzhen Minglida Precision Technology's earnings have gone into reverse gear, which is not great. It might be that many expect the dour earnings performance to recover substantially, which has kept the P/E from collapsing. If not, then existing shareholders may be extremely nervous about the viability of the share price.

Does Growth Match The High P/E?

In order to justify its P/E ratio, Shenzhen Minglida Precision Technology would need to produce impressive growth in excess of the market.

Retrospectively, the last year delivered a frustrating 52% decrease to the company's bottom line. Regardless, EPS has managed to lift by a handy 13% in aggregate from three years ago, thanks to the earlier period of growth. So we can start by confirming that the company has generally done a good job of growing earnings over that time, even though it had some hiccups along the way.

Turning to the outlook, the next year should generate growth of 318% as estimated by the only analyst watching the company. Meanwhile, the rest of the market is forecast to only expand by 39%, which is noticeably less attractive.

In light of this, it's understandable that Shenzhen Minglida Precision Technology's P/E sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Final Word

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

As we suspected, our examination of Shenzhen Minglida Precision Technology's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. Right now shareholders are comfortable with the P/E as they are quite confident future earnings aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

Don't forget that there may be other risks. For instance, we've identified 3 warning signs for Shenzhen Minglida Precision Technology that you should be aware of.

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.