With a median price-to-earnings (or "P/E") ratio of close to 10x in Hong Kong, you could be forgiven for feeling indifferent about China Medical System Holdings Limited's (HKG:867) P/E ratio of 11.6x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/E.

China Medical System Holdings could be doing better as its earnings have been going backwards lately while most other companies have been seeing positive earnings growth. It might be that many expect the dour earnings performance to strengthen positively, which has kept the P/E from falling. If not, then existing shareholders may be a little nervous about the viability of the share price.

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What Are Growth Metrics Telling Us About The P/E?

There's an inherent assumption that a company should be matching the market for P/E ratios like China Medical System Holdings' to be considered reasonable.

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 59%. This means it has also seen a slide in earnings over the longer-term as EPS is down 51% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Shifting to the future, estimates from the ten analysts covering the company suggest earnings should grow by 29% each year over the next three years. Meanwhile, the rest of the market is forecast to only expand by 13% per year, which is noticeably less attractive.

With this information, we find it interesting that China Medical System Holdings is trading at a fairly similar P/E to the market. It may be that most investors aren't convinced the company can achieve future growth expectations.

The Final Word

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.

We've established that China Medical System Holdings currently trades on a lower than expected P/E since its forecast growth is higher than the wider market. When we see a strong earnings outlook with faster-than-market growth, we assume potential risks are what might be placing pressure on the P/E ratio. It appears some are indeed anticipating earnings instability, because these conditions should normally provide a boost to the share price.

Plus, you should also learn about these 2 warning signs we've spotted with China Medical System Holdings.

If these risks are making you reconsider your opinion on China Medical System Holdings, explore our interactive list of high quality stocks to get an idea of what else is out there.

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