This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we'll show how Shanghai Jin Jiang Capital Company Limited's (HKG:2006) P/E ratio could help you assess the value on offer. Shanghai Jin Jiang Capital has a price to earnings ratio of 7.93, based on the last twelve months. That is equivalent to an earnings yield of about 13%.

Check out our latest analysis for Shanghai Jin Jiang Capital

How Do You Calculate A P/E Ratio?

The formula for price to earnings is:

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

Or for Shanghai Jin Jiang Capital:

P/E of 7.93 = CN¥1.08 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥0.14 (Based on the trailing twelve months to December 2018.)

Is A High P/E Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That isn't a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business's prospects, relative to stocks with a lower P/E.

How Does Shanghai Jin Jiang Capital's P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. If you look at the image below, you can see Shanghai Jin Jiang Capital has a lower P/E than the average (12.7) in the hospitality industry classification.

Shanghai Jin Jiang Capital'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. You should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

When earnings fall, the 'E' decreases, over time. That means unless the share price falls, the P/E will increase in a few years. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.

Shanghai Jin Jiang Capital maintained roughly steady earnings over the last twelve months. But over the longer term (5 years) earnings per share have increased by 11%. And it has shrunk its earnings per share by 4.2% per year over the last three years. This growth rate might warrant a low P/E ratio. So we might expect a relatively low P/E.

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. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.