With a price-to-earnings (or "P/E") ratio of 11.7x China National Medicines Corporation Ltd. (SHSE:600511) may be sending very bullish signals at the moment, given that almost half of all companies in China have P/E ratios greater than 30x and even P/E's higher than 55x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.
With earnings growth that's superior to most other companies of late, China National Medicines has been doing relatively well. It might be that many expect the strong earnings performance to degrade substantially, which has repressed the P/E. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.
What Are Growth Metrics Telling Us About The Low P/E?
China National Medicines' P/E ratio would be typical for a company that's expected to deliver very poor growth or even falling earnings, and importantly, perform much worse than the market.
Retrospectively, the last year delivered a decent 9.3% gain to the company's bottom line. The latest three year period has also seen an excellent 51% overall rise in EPS, aided somewhat by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.
Shifting to the future, estimates from the four analysts covering the company suggest earnings should grow by 9.0% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 25% per annum, which is noticeably more attractive.
With this information, we can see why China National Medicines is trading at a P/E lower than the market. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.
What We Can Learn From China National Medicines' P/E?
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.
We've established that China National Medicines maintains its low P/E on the weakness of its forecast growth being lower than the wider market, as expected. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. It's hard to see the share price rising strongly in the near future under these circumstances.
Before you settle on your opinion, we've discovered 1 warning sign for China National Medicines that you should be aware of.
If you're unsure about the strength of China National Medicines' 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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