With a price-to-earnings (or "P/E") ratio of 19.1x Xiamen Faratronic Co., Ltd. (SHSE:600563) may be sending bullish signals at the moment, given that almost half of all companies in China have P/E ratios greater than 35x and even P/E's higher than 64x 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.
Xiamen Faratronic certainly has been doing a good job lately as its earnings growth has been positive while most other companies have been seeing their earnings go backwards. 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.
Check out our latest analysis for Xiamen Faratronic
What Are Growth Metrics Telling Us About The Low P/E?
There's an inherent assumption that a company should underperform the market for P/E ratios like Xiamen Faratronic's to be considered reasonable.
Taking a look back first, we see that the company managed to grow earnings per share by a handy 6.3% last year. The latest three year period has also seen an excellent 98% overall rise in EPS, aided somewhat by its short-term performance. So we can start by confirming that the company has done a great job of growing earnings over that time.
Shifting to the future, estimates from the nine analysts covering the company suggest earnings should grow by 28% over the next year. With the market predicted to deliver 44% growth , the company is positioned for a weaker earnings result.
In light of this, it's understandable that Xiamen Faratronic's P/E sits below the majority of other companies. Apparently many shareholders weren't comfortable holding on while the company is potentially eyeing a less prosperous future.
What We Can Learn From Xiamen Faratronic's P/E?
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.
As we suspected, our examination of Xiamen Faratronic'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.
A lot of potential risks can sit within a company's balance sheet. Our free balance sheet analysis for Xiamen Faratronic with six simple checks will allow you to discover any risks that could be an issue.
Of course, you might also be able to find a better stock than Xiamen Faratronic. 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.