Improved Earnings Required Before Shenzhen Honor Electronic Co., Ltd. (SZSE:300870) Stock's 25% Jump Looks Justified

Shenzhen Honor Electronic Co., Ltd. (SZSE:300870) shareholders would be excited to see that the share price has had a great month, posting a 25% gain and recovering from prior weakness. Unfortunately, despite the strong performance over the last month, the full year gain of 5.2% isn't as attractive.

In spite of the firm bounce in price, given about half the companies in China have price-to-earnings ratios (or "P/E's") above 30x, you may still consider Shenzhen Honor Electronic as an attractive investment with its 18x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

Shenzhen Honor Electronic 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.

See our latest analysis for Shenzhen Honor Electronic

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Shenzhen Honor Electronic.

What Are Growth Metrics Telling Us About The Low P/E?

The only time you'd be truly comfortable seeing a P/E as low as Shenzhen Honor Electronic's is when the company's growth is on track to lag the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 195% last year. The latest three year period has also seen an excellent 44% overall rise in EPS, aided 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.

Turning to the outlook, the next three years should generate growth of 9.8% per year as estimated by the dual analysts watching the company. That's shaping up to be materially lower than the 19% each year growth forecast for the broader market.

In light of this, it's understandable that Shenzhen Honor Electronic'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.

What We Can Learn From Shenzhen Honor Electronic's P/E?

Despite Shenzhen Honor Electronic's shares building up a head of steam, its P/E still lags most other companies. Using the price-to-earnings ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

As we suspected, our examination of Shenzhen Honor Electronic's analyst forecasts revealed that its inferior earnings outlook is contributing to its low P/E. 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.

We don't want to rain on the parade too much, but we did also find 2 warning signs for Shenzhen Honor Electronic that you need to be mindful of.

If you're unsure about the strength of Shenzhen Honor Electronic's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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.