Subdued Growth No Barrier To SMC Electric Limited (HKG:2381) With Shares Advancing 28%

Despite an already strong run, SMC Electric Limited (HKG:2381) shares have been powering on, with a gain of 28% in the last thirty days. Looking back a bit further, it's encouraging to see the stock is up 35% in the last year.

Although its price has surged higher, it's still not a stretch to say that SMC Electric's price-to-earnings (or "P/E") ratio of 10.8x right now seems quite "middle-of-the-road" compared to the market in Hong Kong, where the median P/E ratio is around 12x. Although, it's not wise to simply ignore the P/E without explanation as investors may be disregarding a distinct opportunity or a costly mistake.

This technology could replace computers: discover the 20 stocks are working to make quantum computing a reality.

SMC Electric has been doing a good job lately as it's been growing earnings at a solid pace. It might be that many expect the respectable earnings performance to wane, which has kept the P/E from rising. If that doesn't eventuate, then existing shareholders probably aren't too pessimistic about the future direction of the share price.

See our latest analysis for SMC Electric

Although there are no analyst estimates available for SMC Electric, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

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

There's an inherent assumption that a company should be matching the market for P/E ratios like SMC Electric's to be considered reasonable.

Taking a look back first, we see that the company grew earnings per share by an impressive 27% last year. Still, incredibly EPS has fallen 35% in total from three years ago, which is quite disappointing. So unfortunately, we have to acknowledge that the company has not done a great job of growing earnings over that time.

In contrast to the company, the rest of the market is expected to grow by 20% over the next year, which really puts the company's recent medium-term earnings decline into perspective.

In light of this, it's somewhat alarming that SMC Electric's P/E sits in line with the majority of other companies. Apparently many investors in the company are way less bearish than recent times would indicate and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as a continuation of recent earnings trends is likely to weigh on the share price eventually.

The Key Takeaway

Its shares have lifted substantially and now SMC Electric's P/E is also back up to the market median. 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.

We've established that SMC Electric currently trades on a higher than expected P/E since its recent earnings have been in decline over the medium-term. Right now we are uncomfortable with the P/E as this earnings performance is unlikely to support a more positive sentiment for long. If recent medium-term earnings trends continue, it will place shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

It is also worth noting that we have found 4 warning signs for SMC Electric (1 shouldn't be ignored!) that you need to take into consideration.

It's important to make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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.