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Does China Lesso Group Holdings Limited’s (HKG:2128) P/E Ratio Signal A Buying Opportunity?

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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll look at China Lesso Group Holdings Limited’s (HKG:2128) P/E ratio and reflect on what it tells us about the company’s share price. China Lesso Group Holdings has a price to earnings ratio of 5.62, based on the last twelve months. That is equivalent to an earnings yield of about 18%.

How Do You Calculate China Lesso Group Holdings’s P/E Ratio?

The formula for price to earnings is:

Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)

Or for China Lesso Group Holdings:

P/E of 5.62 = CN¥4.51 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥0.80 (Based on the year to December 2018.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each HK\$1 of company earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

How Growth Rates Impact P/E Ratios

Probably the most important factor in determining what P/E a company trades on is the earnings growth. Earnings growth means that in the future the ‘E’ will be higher. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

China Lesso Group Holdings increased earnings per share by 8.7% last year. And earnings per share have improved by 11% annually, over the last five years.

How Does China Lesso Group Holdings’s P/E Ratio Compare To Its Peers?

One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. If you look at the image below, you can see China Lesso Group Holdings has a lower P/E than the average (8.1) in the building industry classification.

This suggests that market participants think China Lesso Group Holdings will underperform other companies in its industry. Since the market seems unimpressed with China Lesso Group Holdings, it’s quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.

Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

While growth expenditure doesn’t always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.

Is Debt Impacting China Lesso Group Holdings’s P/E?

Net debt is 44% of China Lesso Group Holdings’s market cap. While that’s enough to warrant consideration, it doesn’t really concern us.

The Bottom Line On China Lesso Group Holdings’s P/E Ratio

China Lesso Group Holdings has a P/E of 5.6. That’s below the average in the HK market, which is 10.7. EPS grew over the last twelve months, and debt levels are quite reasonable. The P/E ratio implies the market is cautious about longer term prospects.

Investors have an opportunity when market expectations about a stock are wrong. 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. So this free report on the analyst consensus forecasts could help you make a master move on this stock.

But note: China Lesso Group Holdings may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

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.