This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we'll show how China Resources Land Limited's (HKG:1109) P/E ratio could help you assess the value on offer. China Resources Land has a price to earnings ratio of 7.47, based on the last twelve months. That corresponds to an earnings yield of approximately 13.4%.

View our latest analysis for China Resources Land

How Do You Calculate China Resources Land's P/E Ratio?

The formula for P/E is:

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

Or for China Resources Land:

P/E of 7.47 = HK$30.30 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ HK$4.06 (Based on the year to June 2019.)

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.

Does China Resources Land Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that China Resources Land has a higher P/E than the average (6.1) P/E for companies in the real estate industry.

Its relatively high P/E ratio indicates that China Resources Land 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 delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means even if the current P/E is high, it will reduce over time if the share price stays flat. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

It's great to see that China Resources Land grew EPS by 17% in the last year. And its annual EPS growth rate over 5 years is 15%. With that performance, you might expect an above average P/E ratio.

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

It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. 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).