This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll look at Datang International Power Generation Co., Ltd.’s (HKG:991) P/E ratio and reflect on what it tells us about the company’s share price. Datang International Power Generation has a price to earnings ratio of 14.01, based on the last twelve months. That corresponds to an earnings yield of approximately 7.1%.

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How Do I Calculate Datang International Power Generation’s Price To Earnings Ratio?

The formula for price to earnings is:

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

Or for Datang International Power Generation:

P/E of 14.01 = CN¥1.71 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥0.12 (Based on the year to September 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. All else being equal, it’s better to pay a low price — but as Warren Buffett said, ‘It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.’

How Growth Rates Impact P/E Ratios

Companies that shrink earnings per share quickly will rapidly decrease the ‘E’ in the equation. That means even if the current P/E is low, it will increase over time if the share price stays flat. Then, a higher P/E might scare off shareholders, pushing the share price down.

Datang International Power Generation’s earnings per share fell by 21% in the last twelve months. And EPS is down 31% a year, over the last 5 years. This growth rate might warrant a below average P/E ratio.

How Does Datang International Power Generation’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Datang International Power Generation has a higher P/E than the average (9.7) P/E for companies in the renewable energy industry.

Its relatively high P/E ratio indicates that Datang International Power Generation shareholders think it will perform better than other companies in its industry classification. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.