With a price-to-earnings (or "P/E") ratio of 24.4x Sinosoft Co.,Ltd (SHSE:603927) may be sending bullish signals at the moment, given that almost half of all companies in China have P/E ratios greater than 33x and even P/E's higher than 61x are not unusual. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

SinosoftLtd could be doing better as its earnings have been going backwards lately while most other companies have been seeing positive earnings growth. It seems that many are expecting the dour earnings performance to persist, which has repressed the P/E. If you still 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?

The only time you'd be truly comfortable seeing a P/E as low as SinosoftLtd's is when the company's growth is on track to lag the market.

Retrospectively, the last year delivered a frustrating 6.4% decrease to the company's bottom line. Still, the latest three year period has seen an excellent 33% overall rise in EPS, in spite of its unsatisfying short-term performance. Accordingly, while they would have preferred to keep the run going, shareholders would probably welcome the medium-term rates of earnings growth.

Shifting to the future, estimates from the seven analysts covering the company suggest earnings should grow by 19% each year over the next three years. That's shaping up to be materially lower than the 26% each year growth forecast for the broader market.

With this information, we can see why SinosoftLtd is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.

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.

As we suspected, our examination of SinosoftLtd's analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

You need to take note of risks, for example - SinosoftLtd has 2 warning signs (and 1 which can't be ignored) we think you should know about.

If you're unsure about the strength of SinosoftLtd's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.