Inner Mongolia MengDian HuaNeng Thermal Power Corporation Limited's (SHSE:600863) price-to-earnings (or "P/E") ratio of 13.4x 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 36x and even P/E's above 69x 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 so limited.

With earnings that are retreating more than the market's of late, Inner Mongolia MengDian HuaNeng Thermal Power 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.

Does Growth Match The Low P/E?

In order to justify its P/E ratio, Inner Mongolia MengDian HuaNeng Thermal Power would need to produce anemic growth that's substantially trailing the market.

If we review the last year of earnings, dishearteningly the company's profits fell to the tune of 3.8%. Even so, admirably EPS has lifted 27,367% in aggregate from three years ago, notwithstanding the last 12 months. Accordingly, while they would have preferred to keep the run going, shareholders would probably welcome the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to climb by 24% during the coming year according to the five analysts following the company. Meanwhile, the rest of the market is forecast to expand by 38%, which is noticeably more attractive.

In light of this, it's understandable that Inner Mongolia MengDian HuaNeng Thermal Power'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 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.

We've established that Inner Mongolia MengDian HuaNeng Thermal Power 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. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Inner Mongolia MengDian HuaNeng Thermal Power that you should be aware of.

Of course, you might also be able to find a better stock than Inner Mongolia MengDian HuaNeng Thermal Power. 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.