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The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll apply a basic P/E ratio analysis to China Oriental Group Company Limited’s (HKG:581), to help you decide if the stock is worth further research. Looking at earnings over the last twelve months, China Oriental Group has a P/E ratio of 2.99. That means that at current prices, buyers pay HK$2.99 for every HK$1 in trailing yearly profits.
How Do I Calculate China Oriental Group’s Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share (in the reporting currency) ÷ Earnings per Share (EPS)
Or for China Oriental Group:
P/E of 2.99 = CN¥3.91 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥1.31 (Based on the year to December 2018.)
Is A High Price-to-Earnings Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing 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
Generally speaking the rate of earnings growth has a profound impact on a company’s P/E multiple. If earnings are growing quickly, then the ‘E’ in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
China Oriental Group’s earnings per share fell by 6.2% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 107%.
How Does China Oriental Group’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 Oriental Group has a lower P/E than the average (8.5) in the metals and mining industry classification.
China Oriental Group’s P/E tells us that market participants think it will not fare as well as its peers in the same industry. Many investors like to buy stocks when the market is pessimistic about their prospects. 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
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. So it won’t reflect the advantage of cash, or disadvantage of debt. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.
So What Does China Oriental Group’s Balance Sheet Tell Us?
China Oriental Group has net cash of CN¥7.8b. This is fairly high at 53% of its market capitalization. That might mean balance sheet strength is important to the business, but should also help push the P/E a bit higher than it would otherwise be.
The Verdict On China Oriental Group’s P/E Ratio
China Oriental Group has a P/E of 3. That’s below the average in the HK market, which is 11. The recent drop in earnings per share would almost certainly temper expectations, the healthy balance sheet means the company retains potential for future growth. If that occurs, the current low P/E could prove to be temporary.
Investors should be looking to buy stocks that the market is wrong about. As value investor Benjamin Graham famously said, ‘In the short run, the market is a voting machine but in the long run, it is a weighing machine.’ So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than China Oriental Group. 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 firstname.lastname@example.org. 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.