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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 Tradelink Electronic Commerce Limited's (HKG:536) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, Tradelink Electronic Commerce's P/E ratio is 10.8. In other words, at today's prices, investors are paying HK$10.8 for every HK$1 in prior year profit.

See our latest analysis for Tradelink Electronic Commerce

How Do I Calculate A Price To Earnings Ratio?

The formula for P/E is:

Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)

Or for Tradelink Electronic Commerce:

P/E of 10.8 = HK$1.22 ÷ HK$0.11 (Based on the year to December 2018.)

Is A High P/E Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in 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. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

It's great to see that Tradelink Electronic Commerce grew EPS by 21% in the last year. And it has bolstered its earnings per share by 1.5% per year over the last five years. This could arguably justify a relatively high P/E ratio.

How Does Tradelink Electronic Commerce's P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. We can see in the image below that the average P/E (11.7) for companies in the it industry is higher than Tradelink Electronic Commerce's P/E.

Its relatively low P/E ratio indicates that Tradelink Electronic Commerce shareholders think it will struggle to do as well as other companies in its industry classification. 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.

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

The 'Price' in P/E reflects the market capitalization of the company. In other words, it does not consider any debt or cash that the company may have on the balance sheet. 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).