Colour Life Services Group Co., Limited's (HKG:1778) price-to-earnings (or "P/E") ratio of 17.3x might make it look like a sell right now compared to the market in Hong Kong, where around half of the companies have P/E ratios below 11x and even P/E's below 7x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

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For instance, Colour Life Services Group's receding earnings in recent times would have to be some food for thought. One possibility is that the P/E is high because investors think the company will still do enough to outperform the broader market in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

View our latest analysis for Colour Life Services Group

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Colour Life Services Group's earnings, revenue and cash flow.

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

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

Retrospectively, the last year delivered a frustrating 18% decrease to the company's bottom line. This means it has also seen a slide in earnings over the longer-term as EPS is down 14% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

In contrast to the company, the rest of the market is expected to grow by 19% 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 Colour Life Services Group's 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.

The Final Word

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Colour Life Services Group 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.

We don't want to rain on the parade too much, but we did also find 5 warning signs for Colour Life Services Group (1 is potentially serious!) that you need to be mindful of.

You might be able to find a better investment than Colour Life Services Group. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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