Deswell Industries, Inc. (NASDAQ:DSWL) shares have had a really impressive month, gaining 27% after a shaky period beforehand. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 11% in the last twelve months.

Although its price has surged higher, Deswell Industries may still be sending very bullish signals at the moment with its price-to-earnings (or "P/E") ratio of 7.3x, since almost half of all companies in the United States have P/E ratios greater than 16x and even P/E's higher than 31x are not unusual. 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.

Deswell Industries certainly has been doing a great job lately as it's been growing earnings at a really rapid pace. It might be that many expect the strong earnings performance to degrade substantially, which has repressed the P/E. 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 Deswell Industries

Is There Any Growth For Deswell Industries?

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

If we review the last year of earnings growth, the company posted a terrific increase of 83%. Still, EPS has barely risen at all from three years ago in total, which is not ideal. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Comparing that to the market, which is predicted to deliver 10.0% 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 Deswell Industries' 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

Shares in Deswell Industries are going to need a lot more upward momentum to get the company's P/E out of its slump. Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.

We've established that Deswell Industries 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. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Deswell Industries, and understanding these should be part of your investment process.

If these risks are making you reconsider your opinion on Deswell Industries, 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.