This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Raymond Industrial Limited's (HKG:229) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, Raymond Industrial's P/E ratio is 13.68. That corresponds to an earnings yield of approximately 7.3%.

Check out our latest analysis for Raymond Industrial

How Do You Calculate A P/E Ratio?

The formula for P/E is:

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

Or for Raymond Industrial:

P/E of 13.68 = HK$0.90 ÷ HK$0.07 (Based on the trailing twelve months to September 2019.)

Is A High P/E 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.

How Does Raymond Industrial's P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. As you can see below Raymond Industrial has a P/E ratio that is fairly close for the average for the consumer durables industry, which is 13.0.

That indicates that the market expects Raymond Industrial will perform roughly in line with other companies in its industry. The company could surprise by performing better than average, in the future. Further research into factors such as insider buying and selling, could help you form your own view on whether that is likely.

How Growth Rates Impact P/E Ratios

If earnings fall then in the future the 'E' will be lower. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.

Raymond Industrial's earnings per share fell by 42% in the last twelve months. And EPS is down 13% a year, over the last 3 years. This might lead to low expectations.

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. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

Is Debt Impacting Raymond Industrial's P/E?

With net cash of HK$210m, Raymond Industrial has a very strong balance sheet, which may be important for its business. Having said that, at 47% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.

The Bottom Line On Raymond Industrial's P/E Ratio

Raymond Industrial trades on a P/E ratio of 13.7, which is above its market average of 10.7. The recent drop in earnings per share might keep value investors away, but the healthy balance sheet means the company retains potential for future growth. If fails to eventuate, the current high P/E could prove to be temporary, as the share price falls.

When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. We don't have analyst forecasts, but you could get a better understanding of its growth by checking out this more detailed historical graph of earnings, revenue and cash flow.

You might be able to find a better buy than Raymond Industrial. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.