With a price-to-earnings (or "P/E") ratio of 17.7x Hubei Yihua Chemical Industry Co., Ltd. (SZSE:000422) may be sending bullish signals at the moment, given that almost half of all companies in China have P/E ratios greater than 28x and even P/E's higher than 52x are not unusual. Although, it's not wise to just take the P/E at face value as there may be an explanation why it's limited.

With earnings that are retreating more than the market's of late, Hubei Yihua Chemical Industry has been very sluggish. 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.

Is There Any Growth For Hubei Yihua Chemical Industry?

There's an inherent assumption that a company should underperform the market for P/E ratios like Hubei Yihua Chemical Industry's to be considered reasonable.

Taking a look back first, the company's earnings per share growth last year wasn't something to get excited about as it posted a disappointing decline of 15%. This means it has also seen a slide in earnings over the longer-term as EPS is down 49% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been undesirable for the company.

Shifting to the future, estimates from the three analysts covering the company suggest earnings should grow by 24% each year over the next three years. That's shaping up to be materially higher than the 20% per annum growth forecast for the broader market.

With this information, we find it odd that Hubei Yihua Chemical Industry is trading at a P/E lower than the market. It looks like most investors are not convinced at all that the company can achieve future growth expectations.

The Final Word

We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Our examination of Hubei Yihua Chemical Industry's analyst forecasts revealed that its superior earnings outlook isn't contributing to its P/E anywhere near as much as we would have predicted. When we see a strong earnings outlook with faster-than-market growth, we assume potential risks are what might be placing significant pressure on the P/E ratio. It appears many are indeed anticipating earnings instability, because these conditions should normally provide a boost to the share price.

Having said that, be aware Hubei Yihua Chemical Industry is showing 3 warning signs in our investment analysis, and 1 of those is significant.

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).

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