When close to half the companies in China have price-to-earnings ratios (or "P/E's") above 27x, you may consider Shenzhen Honor Electronic Co., Ltd. (SZSE:300870) as an attractive investment with its 14.5x P/E ratio. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.
Recent times have been advantageous for Shenzhen Honor Electronic as its earnings have been rising faster than most other companies. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.
Does Growth Match The Low P/E?
Shenzhen Honor Electronic's P/E ratio would be typical for a company that's only expected to deliver limited growth, and importantly, perform worse than the market.
If we review the last year of earnings growth, the company posted a terrific increase of 195%. Pleasingly, EPS has also lifted 44% in aggregate from three years ago, thanks to the last 12 months of growth. Therefore, it's fair to say the earnings growth recently has been superb for the company.
Turning to the outlook, the next three years should generate growth of 11% per year as estimated by the sole analyst watching the company. With the market predicted to deliver 23% growth per annum, the company is positioned for a weaker earnings result.
With this information, we can see why Shenzhen Honor Electronic is trading at a P/E lower than the market. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.
The Key Takeaway
Generally, our preference is to limit the use of the price-to-earnings ratio to establishing what the market thinks about the overall health of a company.
As we suspected, our examination of Shenzhen Honor Electronic's analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. 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.
Plus, you should also learn about this 1 warning sign we've spotted with Shenzhen Honor Electronic.
If these risks are making you reconsider your opinion on Shenzhen Honor Electronic, 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.