In This Article:
This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll show how you can use HPC Holdings Limited's (HKG:1742) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, HPC Holdings's P/E ratio is 3.9. That corresponds to an earnings yield of approximately 26%.
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View our latest analysis for HPC Holdings
How Do I Calculate A 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 HPC Holdings:
P/E of 3.9 = SGD0.038 (Note: this is the share price in the reporting currency, namely, SGD ) ÷ SGD0.0099 (Based on the year to October 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 is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
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. Then, a higher P/E might scare off shareholders, pushing the share price down.
HPC Holdings saw earnings per share decrease by 57% last year. And over the longer term (5 years) earnings per share have decreased 7.5% annually. This could justify a pessimistic P/E.
How Does HPC Holdings'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 HPC Holdings has a lower P/E than the average (11.4) in the construction industry classification.
Its relatively low P/E ratio indicates that HPC Holdings shareholders think it will struggle to do as well as other companies in its industry classification. 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.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
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).