Three Squirrels Inc. (SZSE:300783) shareholders are no doubt pleased to see that the share price has bounced 29% in the last month, although it is still struggling to make up recently lost ground. Taking a wider view, although not as strong as the last month, the full year gain of 21% is also fairly reasonable.

Even after such a large jump in price, given about half the companies in China have price-to-earnings ratios (or "P/E's") above 29x, you may still consider Three Squirrels as an attractive investment with its 24.2x P/E ratio. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's limited.

Three Squirrels certainly has been doing a good job lately as its earnings growth has been positive while most other companies have been seeing their earnings go backwards. One possibility is that the P/E is low because investors think the company's earnings are going to fall away like everyone else's soon. 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.

Does Growth Match The Low P/E?

In order to justify its P/E ratio, Three Squirrels would need to produce sluggish growth that's trailing the market.

If we review the last year of earnings growth, the company posted a terrific increase of 79%. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 23% 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 22% per year during the coming three years according to the nine analysts following the company. That's shaping up to be materially higher than the 19% per annum growth forecast for the broader market.

In light of this, it's peculiar that Three Squirrels' P/E sits below the majority of other companies. Apparently some shareholders are doubtful of the forecasts and have been accepting significantly lower selling prices.

The Final Word

Three Squirrels' stock might have been given a solid boost, but its P/E certainly hasn't reached any great heights. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Our examination of Three Squirrels' analyst forecasts revealed that its superior earnings outlook isn't contributing to its P/E anywhere near as much as we would have predicted. There could be some major unobserved threats to earnings preventing the P/E ratio from matching the positive outlook. At least price risks look to be very low, but investors seem to think future earnings could see a lot of volatility.

It is also worth noting that we have found 2 warning signs for Three Squirrels (1 is potentially serious!) that you need to take into consideration.

You might be able to find a better investment than Three Squirrels. 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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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.