RKEC Projects (NSE:RKEC) shareholders are no doubt pleased to see that the share price has had a great month, posting a 31% gain, recovering from prior weakness. But shareholders may not all be feeling jubilant, since the share price is still down 15% in the last year.

All else being equal, a sharp share price increase should make a stock less attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. So some would prefer to hold off buying when there is a lot of optimism towards a stock. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.

Check out our latest analysis for RKEC Projects

Does RKEC Projects Have A Relatively High Or Low P/E For Its Industry?

We can tell from its P/E ratio of 5.94 that sentiment around RKEC Projects isn't particularly high. We can see in the image below that the average P/E (12.3) for companies in the construction industry is higher than RKEC Projects's P/E.

Its relatively low P/E ratio indicates that RKEC Projects shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with RKEC Projects, it's quite possible it could surprise on the upside. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.

How Growth Rates Impact P/E Ratios

Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

RKEC Projects's earnings per share were pretty steady over the last year. But over the longer term (5 years) earnings per share have increased by 76%.

Remember: P/E Ratios Don't Consider The Balance Sheet

The 'Price' in P/E reflects the market capitalization of the company. So it won't reflect the advantage of cash, or disadvantage of debt. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

Is Debt Impacting RKEC Projects's P/E?

Net debt totals 15% of RKEC Projects's market cap. It would probably deserve a higher P/E ratio if it was net cash, since it would have more options for growth.

The Verdict On RKEC Projects's P/E Ratio

RKEC Projects's P/E is 5.9 which is below average (13.1) in the IN market. With only modest debt, it's likely the lack of EPS growth at least partially explains the pessimism implied by the P/E ratio. What we know for sure is that investors are becoming less uncomfortable about RKEC Projects's prospects, since they have pushed its P/E ratio from 4.5 to 5.9 over the last month. For those who like to invest in turnarounds, that might mean it's time to put the stock on a watchlist, or research it. But others might consider the opportunity to have passed.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. We don't have analyst forecasts, but you might want to assess this data-rich visualization of earnings, revenue and cash flow.

Of course you might be able to find a better stock than RKEC Projects. So you may wish to see this free collection of other companies that have grown earnings strongly.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.