Sumec Corporation Limited's (SHSE:600710) price-to-earnings (or "P/E") ratio of 10.5x 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 32x and even P/E's above 62x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Sumec has been doing quite well of late. It might be that many expect the strong earnings performance to degrade substantially, possibly more than the market, which has repressed the P/E. 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?

Sumec's P/E ratio would be typical for a company that's expected to deliver very poor growth or even falling earnings, and importantly, perform much worse than the market.

Retrospectively, the last year delivered a decent 14% gain to the company's bottom line. The latest three year period has also seen an excellent 61% overall rise in EPS, aided somewhat by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Shifting to the future, estimates from the dual analysts covering the company suggest earnings should grow by 4.7% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 19% each year, which is noticeably more attractive.

In light of this, it's understandable that Sumec'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.

The Final Word

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 Sumec's analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. Right now shareholders are accepting the low P/E as they concede future earnings probably won't provide any pleasant surprises. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

Before you settle on your opinion, we've discovered 1 warning sign for Sumec that you should be aware of.

Of course, you might also be able to find a better stock than Sumec. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.