When close to half the companies in Singapore have price-to-earnings ratios (or "P/E's") above 12x, you may consider Sembcorp Industries Ltd (SGX:U96) as an attractive investment with its 8.9x 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.

With its earnings growth in positive territory compared to the declining earnings of most other companies, Sembcorp Industries has been doing quite well of late. 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.

Does Growth Match The Low P/E?

There's an inherent assumption that a company should underperform the market for P/E ratios like Sembcorp Industries' to be considered reasonable.

If we review the last year of earnings growth, the company posted a terrific increase of 45%. The strong recent performance means it was also able to grow EPS by 630% in total over the last three years. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Shifting to the future, estimates from the twelve analysts covering the company suggest earnings growth is heading into negative territory, declining 0.3% each year over the next three years. With the market predicted to deliver 8.5% growth per year, that's a disappointing outcome.

In light of this, it's understandable that Sembcorp Industries' P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.

What We Can Learn From Sembcorp Industries' 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 Sembcorp Industries' 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. It's hard to see the share price rising strongly in the near future under these circumstances.

There are also other vital risk factors to consider and we've discovered 3 warning signs for Sembcorp Industries (1 is a bit unpleasant!) that you should be aware of before investing here.

You might be able to find a better investment than Sembcorp Industries. If you want a selection of possible candidates, check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.