In This Article:
The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we'll show how Xin Yuan Enterprises Group Limited's (HKG:1748) P/E ratio could help you assess the value on offer. Looking at earnings over the last twelve months, Xin Yuan Enterprises Group has a P/E ratio of 12.32. In other words, at today's prices, investors are paying HK$12.32 for every HK$1 in prior year profit.
See our latest analysis for Xin Yuan Enterprises Group
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share (in the reporting currency) ÷ Earnings per Share (EPS)
Or for Xin Yuan Enterprises Group:
P/E of 12.32 = HK$0.17 (Note: this is the share price in the reporting currency, namely, USD ) ÷ HK$0.01 (Based on the year to June 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. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price'.
How Does Xin Yuan Enterprises Group'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 Xin Yuan Enterprises Group has a P/E ratio that is roughly in line with the shipping industry average (13.2).
Xin Yuan Enterprises Group's P/E tells us that market participants think its prospects are roughly in line with its industry. So if Xin Yuan Enterprises Group actually outperforms its peers going forward, that should be a positive for the share price. 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
P/E ratios primarily reflect market expectations around earnings growth rates. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Xin Yuan Enterprises Group saw earnings per share decrease by 73% last year.
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. 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.