Shandong Weida Machinery Co., Ltd. (SZSE:002026) shares have had a horrible month, losing 27% after a relatively good period beforehand. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 30% share price drop.

In spite of the heavy fall in price, given around half the companies in China have price-to-earnings ratios (or "P/E's") below 29x, you may still consider Shandong Weida Machinery as a stock to potentially avoid with its 33.7x 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.

As an illustration, earnings have deteriorated at Shandong Weida Machinery over the last year, which is not ideal at all. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/E from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Shandong Weida Machinery

Is There Enough Growth For Shandong Weida Machinery?

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

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 69%. Unfortunately, that's brought it right back to where it started three years ago with EPS growth being virtually non-existent overall during that time. So it appears to us that the company has had a mixed result in terms of growing earnings over that time.

Comparing that to the market, which is predicted to deliver 42% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

In light of this, it's alarming that Shandong Weida Machinery's P/E sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh heavily on the share price eventually.

The Key Takeaway

Despite the recent share price weakness, Shandong Weida Machinery's P/E remains higher than most other companies. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Shandong Weida Machinery currently trades on a much higher than expected P/E since its recent three-year growth is lower than the wider market forecast. When we see weak earnings with slower than market growth, we suspect the share price is at risk of declining, sending the high P/E lower. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You should always think about risks. Case in point, we've spotted 2 warning signs for Shandong Weida Machinery you should be aware of.

If you're unsure about the strength of Shandong Weida Machinery's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.