When close to half the companies in Australia have price-to-earnings ratios (or "P/E's") above 20x, you may consider Stonehorse Energy Limited (ASX:SHE) as a highly attractive investment with its 3.7x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/E.

Recent times have been quite advantageous for Stonehorse Energy as its earnings have been rising very briskly. One possibility is that the P/E is low because investors think this strong earnings growth might actually underperform the broader market in the near future. 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.

See our latest analysis for Stonehorse Energy

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Stonehorse Energy's earnings, revenue and cash flow.

How Is Stonehorse Energy's Growth Trending?

In order to justify its P/E ratio, Stonehorse Energy would need to produce anemic growth that's substantially trailing the market.

Retrospectively, the last year delivered an exceptional 58% gain to the company's bottom line. Still, EPS has barely risen at all from three years ago in total, which is not ideal. Therefore, it's fair to say that earnings growth has been inconsistent recently for the company.

This is in contrast to the rest of the market, which is expected to grow by 23% over the next year, materially higher than the company's recent medium-term annualised growth rates.

In light of this, it's understandable that Stonehorse Energy's P/E sits below the majority of other companies. It seems most investors are expecting to see the recent limited growth rates continue into the future and are only willing to pay a reduced amount for the stock.

The Final Word

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.

We've established that Stonehorse Energy maintains its low P/E on the weakness of its recent three-year growth being lower than the wider market forecast, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. If recent medium-term earnings trends continue, it's hard to see the share price rising strongly in the near future under these circumstances.

You should always think about risks. Case in point, we've spotted 3 warning signs for Stonehorse Energy you should be aware of, and 2 of them are potentially serious.

You might be able to find a better investment than Stonehorse Energy. 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).

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.