Ching Lee Holdings Limited (HKG:3728) shareholders that were waiting for something to happen have been dealt a blow with a 31% share price drop in the last month. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 45% share price drop.

Even after such a large drop in price, given about half the companies in Hong Kong have price-to-earnings ratios (or "P/E's") above 10x, you may still consider Ching Lee Holdings as an attractive investment with its 4.9x 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.

For example, consider that Ching Lee Holdings' financial performance has been poor lately as its earnings have been in decline. It might be that many expect the disappointing earnings performance to continue or accelerate, 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.

Does Growth Match The Low P/E?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 7.5%. This means it has also seen a slide in earnings over the longer-term as EPS is down 7.3% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Weighing that medium-term earnings trajectory against the broader market's one-year forecast for expansion of 19% shows it's an unpleasant look.

In light of this, it's understandable that Ching Lee Holdings' P/E would sit below the majority of other companies. However, we think shrinking earnings are unlikely to lead to a stable P/E over the longer term, which could set up shareholders for future disappointment. Even just maintaining these prices could be difficult to achieve as recent earnings trends are already weighing down the shares.

The Final Word

The softening of Ching Lee Holdings' shares means its P/E is now sitting at a pretty low level. 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.

We've established that Ching Lee Holdings maintains its low P/E on the weakness of its sliding earnings over the medium-term, as expected. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

Don't forget that there may be other risks. For instance, we've identified 4 warning signs for Ching Lee Holdings (3 are a bit concerning) you should be aware of.

If these risks are making you reconsider your opinion on Ching Lee Holdings, 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com