In This Article:
Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll look at Kwan On Holdings Limited's (HKG:1559) P/E ratio and reflect on what it tells us about the company's share price. Kwan On Holdings has a P/E ratio of 18.13, based on the last twelve months. That is equivalent to an earnings yield of about 5.5%.
Check out our latest analysis for Kwan On Holdings
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 Kwan On Holdings:
P/E of 18.13 = HK$0.40 ÷ HK$0.02 (Based on the trailing twelve months to March 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each HK$1 the company has earned over the last year. 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.
Does Kwan On Holdings Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. You can see in the image below that the average P/E (10.0) for companies in the construction industry is lower than Kwan On Holdings's P/E.
Its relatively high P/E ratio indicates that Kwan On Holdings shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So investors 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. Then, a higher P/E might scare off shareholders, pushing the share price down.
Kwan On Holdings shrunk earnings per share by 17% over the last year. And over the longer term (5 years) earnings per share have decreased 1.6% annually. This growth rate might warrant a below average P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. 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.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.