The Shanghai Mechanical & Electrical Industry Co.,Ltd. (SHSE:600835) share price has done very well over the last month, posting an excellent gain of 36%. Notwithstanding the latest gain, the annual share price return of 8.3% isn't as impressive.

Although its price has surged higher, Shanghai Mechanical & Electrical IndustryLtd's price-to-earnings (or "P/E") ratio of 15.2x might still 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. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

Recent times haven't been advantageous for Shanghai Mechanical & Electrical IndustryLtd as its earnings have been falling quicker than most other companies. 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.

Does Growth Match The Low P/E?

In order to justify its P/E ratio, Shanghai Mechanical & Electrical IndustryLtd would need to produce anemic growth that's substantially trailing the market.

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 13%. This means it has also seen a slide in earnings over the longer-term as EPS is down 17% in total over the last three years. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

Shifting to the future, estimates from the two analysts covering the company suggest earnings should grow by 11% per annum over the next three years. Meanwhile, the rest of the market is forecast to expand by 18% per year, which is noticeably more attractive.

With this information, we can see why Shanghai Mechanical & Electrical IndustryLtd 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

Shanghai Mechanical & Electrical IndustryLtd's recent share price jump still sees its P/E sitting firmly flat on the ground. Typically, we'd caution against reading too much into price-to-earnings ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Shanghai Mechanical & Electrical IndustryLtd 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.

Before you settle on your opinion, we've discovered 1 warning sign for Shanghai Mechanical & Electrical IndustryLtd that you should be aware of.

If these risks are making you reconsider your opinion on Shanghai Mechanical & Electrical IndustryLtd, 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.