There wouldn't be many who think WH Group Limited's (HKG:288) price-to-earnings (or "P/E") ratio of 8.8x is worth a mention when the median P/E in Hong Kong is similar at about 9x. While this might not raise any eyebrows, if the P/E ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

Recent times haven't been advantageous for WH Group as its earnings have been falling quicker than most other companies. It might be that many expect the dismal earnings performance to revert back to market averages soon, which has kept the P/E from falling. 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 it doesn't keep underperforming if your plan is to pick up some stock while it's not in favour.

Check out our latest analysis for WH Group

Does Growth Match The P/E?

The only time you'd be comfortable seeing a P/E like WH Group's is when the company's growth is tracking the market closely.

Retrospectively, the last year delivered a frustrating 9.8% decrease to the company's bottom line. The last three years don't look nice either as the company has shrunk EPS by 12% in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Turning to the outlook, the next three years should generate growth of 7.3% per annum as estimated by the analysts watching the company. Meanwhile, the rest of the market is forecast to expand by 16% per year, which is noticeably more attractive.

In light of this, it's curious that WH Group's P/E sits in line with the majority of other companies. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. Maintaining these prices will be difficult to achieve as this level of earnings growth is likely to weigh down the shares eventually.

The Key Takeaway

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that WH Group currently trades on a higher than expected P/E since its forecast growth is lower than the wider market. When we see a weak earnings outlook with slower than market growth, we suspect the share price is at risk of declining, sending the moderate P/E lower. Unless these conditions improve, it's challenging to accept these prices as being reasonable.

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

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.