Tongwei Co.,Ltd's (SHSE:600438) price-to-earnings (or "P/E") ratio of 5x might make it look like a strong buy right now compared to the market in China, where around half of the companies have P/E ratios above 35x and even P/E's above 65x are quite common. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

Recent times haven't been advantageous for TongweiLtd as its earnings have been falling quicker than most other companies. It seems that many are expecting the dismal earnings performance to persist, which has repressed the P/E. If you still like the company, you'd want its earnings trajectory to turn around before making any decisions. Or at the very least, you'd be hoping the earnings slide doesn't get any worse if your plan is to pick up some stock while it's out of favour.

View our latest analysis for TongweiLtd

Is There Any Growth For TongweiLtd?

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

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 15%. Even so, admirably EPS has lifted 395% in aggregate from three years ago, notwithstanding the last 12 months. Although it's been a bumpy ride, it's still fair to say the earnings growth recently has been more than adequate for the company.

Looking ahead now, EPS is anticipated to slump, contracting by 1.0% per annum during the coming three years according to the analysts following the company. With the market predicted to deliver 22% growth per year, that's a disappointing outcome.

With this information, we are not surprised that TongweiLtd is trading at a P/E lower than the market. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

What We Can Learn From TongweiLtd's P/E?

Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that TongweiLtd maintains its low P/E on the weakness of its forecast for sliding earnings, 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 these conditions improve, they will continue to form a barrier for the share price around these levels.

You should always think about risks. Case in point, we've spotted 3 warning signs for TongweiLtd you should be aware of, and 1 of them is potentially serious.

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.