Hongfa Technology Co., Ltd.'s (SHSE:600885) price-to-earnings (or "P/E") ratio of 21.2x might make it look like a buy right now compared to the market in China, where around half of the companies have P/E ratios above 31x and even P/E's above 58x are quite common. However, the P/E might be low for a reason and it requires further investigation to determine if it's justified.

With earnings growth that's superior to most other companies of late, Hongfa Technology has been doing relatively well. It might be that many expect the strong earnings performance to degrade substantially, 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.

Is There Any Growth For Hongfa Technology?

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

Retrospectively, the last year delivered a decent 8.8% gain to the company's bottom line. The latest three year period has also seen an excellent 53% overall rise in EPS, aided somewhat by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Looking ahead now, EPS is anticipated to climb by 14% per annum during the coming three years according to the analysts following the company. With the market predicted to deliver 20% growth per year, the company is positioned for a weaker earnings result.

With this information, we can see why Hongfa Technology is trading at a P/E lower than the market. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.

The Bottom Line On Hongfa Technology's P/E

While the price-to-earnings ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of earnings expectations.

As we suspected, our examination of Hongfa Technology'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. It's hard to see the share price rising strongly in the near future under these circumstances.

Plus, you should also learn about this 1 warning sign we've spotted with Hongfa Technology.

If you're unsure about the strength of Hongfa Technology'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.