When close to half the companies in China have price-to-earnings ratios (or "P/E's") above 32x, you may consider Jiangxi Hongcheng Environment Co.,Ltd. (SHSE:600461) as a highly attractive investment with its 9.6x P/E ratio. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

As an illustration, earnings have deteriorated at Jiangxi Hongcheng EnvironmentLtd over the last year, which is not ideal at all. One possibility is that the P/E is low because investors think the company won't do enough to avoid underperforming the broader market in the near future. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

See our latest analysis for Jiangxi Hongcheng EnvironmentLtd

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

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 1.6%. Still, the latest three year period has seen an excellent 30% overall rise in EPS, in spite of its unsatisfying short-term performance. So we can start by confirming that the company has generally done a very good job of growing earnings over that time, even though it had some hiccups along the way.

Comparing that to the market, which is predicted to deliver 42% growth in the next 12 months, the company's momentum is weaker based on recent medium-term annualised earnings results.

In light of this, it's understandable that Jiangxi Hongcheng EnvironmentLtd's P/E sits below the majority of other companies. It seems most investors are expecting to see the recent limited growth rates continue into the future and are only willing to pay a reduced amount for the stock.

The Key Takeaway

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 Jiangxi Hongcheng EnvironmentLtd maintains its low P/E on the weakness of its recent three-year growth being lower than the wider market forecast, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. If recent medium-term earnings trends continue, it's hard to see the share price rising strongly in the near future under these circumstances.

Don't forget that there may be other risks. For instance, we've identified 3 warning signs for Jiangxi Hongcheng EnvironmentLtd that you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.