When close to half the companies in China have price-to-earnings ratios (or "P/E's") above 28x, you may consider Xiangtan Electrochemical Scientific Co.,Ltd (SZSE:002125) as an attractive investment with its 15.7x 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.

Xiangtan Electrochemical ScientificLtd certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. One possibility is that the P/E is low because investors think this strong earnings growth might actually underperform the broader market in the near future. If that doesn't eventuate, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

Does Growth Match The Low P/E?

Xiangtan Electrochemical ScientificLtd's P/E ratio would be typical for a company that's only expected to deliver limited growth, and importantly, perform worse than the market.

If we review the last year of earnings growth, the company posted a terrific increase of 52%. The latest three year period has also seen an excellent 548% overall rise in EPS, aided by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Comparing that to the market, which is only predicted to deliver 36% growth in the next 12 months, the company's momentum is stronger based on recent medium-term annualised earnings results.

In light of this, it's peculiar that Xiangtan Electrochemical ScientificLtd's P/E sits below the majority of other companies. Apparently some shareholders believe the recent performance has exceeded its limits and have been accepting significantly lower selling prices.

The Key Takeaway

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 Xiangtan Electrochemical ScientificLtd revealed its three-year earnings trends aren't contributing to its P/E anywhere near as much as we would have predicted, given they look better than current market expectations. When we see strong earnings with faster-than-market growth, we assume potential risks are what might be placing significant pressure on the P/E ratio. At least price risks look to be very low if recent medium-term earnings trends continue, but investors seem to think future earnings could see a lot of volatility.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Xiangtan Electrochemical ScientificLtd, and understanding should be part of your investment process.

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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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.