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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 show how you can use AV Promotions Holdings Limited's (HKG:8419) P/E ratio to inform your assessment of the investment opportunity. AV Promotions Holdings has a price to earnings ratio of 5.58, based on the last twelve months. That means that at current prices, buyers pay HK$5.58 for every HK$1 in trailing yearly profits.
Check out our latest analysis for AV Promotions Holdings
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for AV Promotions Holdings:
P/E of 5.58 = HK$0.32 ÷ HK$0.06 (Based on the year to September 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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 Does AV Promotions Holdings's P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. The image below shows that AV Promotions Holdings has a lower P/E than the average (12.2) P/E for companies in the commercial services industry.
AV Promotions Holdings'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. 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
Earnings growth rates have a big influence on P/E ratios. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means even if the current P/E is high, it will reduce over time if the share price stays flat. Then, a lower P/E should attract more buyers, pushing the share price up.
In the last year, AV Promotions Holdings grew EPS like Taylor Swift grew her fan base back in 2010; the 122% gain was both fast and well deserved. And earnings per share have improved by 39% annually, over the last three years. So we'd absolutely expect it to have a relatively high P/E ratio.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn't take debt or cash into account. 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).