Why Investors Shouldn't Be Surprised By China BlueChemical Ltd.'s (HKG:3983) Low P/E

China BlueChemical Ltd.'s (HKG:3983) price-to-earnings (or "P/E") ratio of 4.2x might make it look like a strong buy right now compared to the market in Hong Kong, where around half of the companies have P/E ratios above 10x and even P/E's above 19x 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 have been advantageous for China BlueChemical as its earnings have been rising faster than most other companies. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

Check out our latest analysis for China BlueChemical

Want the full picture on analyst estimates for the company? Then our free report on China BlueChemical will help you uncover what's on the horizon.

Does Growth Match The Low P/E?

The only time you'd be truly comfortable seeing a P/E as depressed as China BlueChemical's is when the company's growth is on track to lag the market decidedly.

Taking a look back first, we see that the company grew earnings per share by an impressive 45% last year. The latest three year period has also seen an excellent 219% overall rise in EPS, aided by its short-term performance. Accordingly, shareholders would have probably welcomed those medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to slump, contracting by 14% per year during the coming three years according to the only analyst following the company. That's not great when the rest of the market is expected to grow by 16% per annum.

With this information, we are not surprised that China BlueChemical is trading at a P/E lower than the market. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.

What We Can Learn From China BlueChemical'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 China BlueChemical's analyst forecasts revealed that its outlook for shrinking earnings 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. 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 and we've discovered 2 warning signs for China BlueChemical (1 doesn't sit too well with us!) that you should be aware of before investing here.

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

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com