With a price-to-earnings (or "P/E") ratio of 46.8x MMG Limited (HKG:1208) may be sending very bearish signals at the moment, given that almost half of all companies in Hong Kong have P/E ratios under 9x and even P/E's lower than 5x 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 have been advantageous for MMG as its earnings have been rising faster than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for MMG

If you'd like to see what analysts are forecasting going forward, you should check out our free report on MMG.

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

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

If we review the last year of earnings growth, the company posted a terrific increase of 152%. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 88% overall. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Looking ahead now, EPS is anticipated to climb by 87% per year during the coming three years according to the eight analysts following the company. That's shaping up to be materially higher than the 13% per year growth forecast for the broader market.

In light of this, it's understandable that MMG'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 Key Takeaway

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 MMG'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. Unless these conditions change, they will continue to provide strong support to the share price.

Before you take the next step, you should know about the 2 warning signs for MMG (1 can't be ignored!) that we have uncovered.

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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