Digital China Information Service Group Company Ltd. (SZSE:000555) shareholders are no doubt pleased to see that the share price has bounced 32% in the last month, although it is still struggling to make up recently lost ground. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 23% in the last twelve months.
Following the firm bounce in price, Digital China Information Service Group may be sending very bearish signals at the moment with a price-to-earnings (or "P/E") ratio of 53.9x, since almost half of all companies in China have P/E ratios under 29x and even P/E's lower than 18x 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.
Recent times haven't been advantageous for Digital China Information Service Group as its earnings have been falling quicker than most other companies. It might be that many expect the dismal earnings performance to recover substantially, 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.
How Is Digital China Information Service Group's Growth Trending?
There's an inherent assumption that a company should far outperform the market for P/E ratios like Digital China Information Service Group's to be considered reasonable.
If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 42%. This means it has also seen a slide in earnings over the longer-term as EPS is down 57% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.
Turning to the outlook, the next year should generate growth of 163% as estimated by the two analysts watching the company. Meanwhile, the rest of the market is forecast to only expand by 41%, which is noticeably less attractive.
With this information, we can see why Digital China Information Service Group is trading at such a high P/E compared to the market. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
The Final Word
Shares in Digital China Information Service Group have built up some good momentum lately, which has really inflated its P/E. 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.
As we suspected, our examination of Digital China Information Service Group's analyst forecasts revealed that its superior earnings outlook is contributing to its high P/E. At this stage investors feel the potential for a deterioration in earnings isn't great enough to justify a lower P/E ratio. It's hard to see the share price falling strongly in the near future under these circumstances.
Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Digital China Information Service Group that you should be aware of.
If P/E ratios interest you, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.
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