What Wecon Holdings Limited's (HKG:1793) 26% Share Price Gain Is Not Telling You

Wecon Holdings Limited (HKG:1793) shareholders would be excited to see that the share price has had a great month, posting a 26% gain and recovering from prior weakness. Looking back a bit further, it's encouraging to see the stock is up 42% in the last year.

Following the firm bounce in price, given close to half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") below 12x, you may consider Wecon Holdings as a stock to avoid entirely with its 23.5x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/E.

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Earnings have risen firmly for Wecon Holdings recently, which is pleasing to see. One possibility is that the P/E is high because investors think this respectable earnings growth will be enough to outperform the broader market in the near future. If not, then existing shareholders may be a little nervous about the viability of the share price.

Check out our latest analysis for Wecon Holdings

Is There Enough Growth For Wecon Holdings?

There's an inherent assumption that a company should far outperform the market for P/E ratios like Wecon Holdings' to be considered reasonable.

Taking a look back first, we see that the company grew earnings per share by an impressive 23% last year. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 48% overall. 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 20% 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 Wecon Holdings' 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 Wecon Holdings' P/E?

Wecon Holdings' P/E is flying high just like its stock has during the last month. 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.

We've established that Wecon Holdings currently trades on a much higher than expected P/E since its recent earnings have been in decline over the medium-term. When we see earnings heading backwards and underperforming the market forecasts, 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 need to take note of risks, for example - Wecon Holdings has 3 warning signs (and 1 which is a bit unpleasant) we think you should know about.

If these risks are making you reconsider your opinion on Wecon 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.