Shanghai Environment Group Co., Ltd's (SHSE:601200) price-to-earnings (or "P/E") ratio of 18.4x might make it look like a buy right now compared to the market in China, where around half of the companies have P/E ratios above 25x and even P/E's above 44x are quite common. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's limited.

Shanghai Environment Group's negative earnings growth of late has neither been better nor worse than most other companies. It might be that many expect the company's earnings performance to degrade further, 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. At the very least, you'd be hoping that earnings don't fall off a cliff if your plan is to pick up some stock while it's out of favour.

What Are Growth Metrics Telling Us About The Low P/E?

In order to justify its P/E ratio, Shanghai Environment Group would need to produce sluggish growth that's trailing the market.

Retrospectively, the last year delivered virtually the same number to the company's bottom line as the year before. This isn't what shareholders were looking for as it means they've been left with a 38% decline in EPS over the last three years in total. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Shifting to the future, estimates from the sole analyst covering the company suggest earnings should grow by 23% over the next year. Meanwhile, the rest of the market is forecast to expand by 41%, which is noticeably more attractive.

In light of this, it's understandable that Shanghai Environment Group's P/E sits below the majority of other companies. 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 Shanghai Environment Group's 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 Shanghai Environment Group maintains its low P/E on the weakness of its forecast growth being lower than the wider market, 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. It's hard to see the share price rising strongly in the near future under these circumstances.

You should always think about risks. Case in point, we've spotted 2 warning signs for Shanghai Environment Group you should be aware of, and 1 of them is a bit unpleasant.

If these risks are making you reconsider your opinion on Shanghai Environment Group, 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.