Huangshan Novel Co.,Ltd's (SZSE:002014) price-to-earnings (or "P/E") ratio of 13.8x might make it look like a strong buy right now compared to the market in China, where around half of the companies have P/E ratios above 30x and even P/E's above 53x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's so limited.

Earnings have risen firmly for Huangshan NovelLtd recently, which is pleasing to see. One possibility is that the P/E is low because investors think this respectable earnings growth might actually underperform the broader market in the near future. If that doesn't eventuate, then existing shareholders have reason to be optimistic about the future direction of the share price.

Is There Any Growth For Huangshan NovelLtd?

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

If we review the last year of earnings growth, the company posted a worthy increase of 11%. Pleasingly, EPS has also lifted 31% in aggregate from three years ago, partly thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing earnings over that time.

Weighing that recent medium-term earnings trajectory against the broader market's one-year forecast for expansion of 41% shows it's noticeably less attractive on an annualised basis.

With this information, we can see why Huangshan NovelLtd is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on to something they believe will continue to trail the bourse.

The Bottom Line On Huangshan NovelLtd's P/E

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.

As we suspected, our examination of Huangshan NovelLtd revealed its three-year earnings trends are contributing to its low P/E, given they look worse than current market expectations. 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.

Plus, you should also learn about this 1 warning sign we've spotted with Huangshan NovelLtd.

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

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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.