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 Lifestyle International Holdings Limited's (HKG:1212) P/E ratio could help you assess the value on offer. Based on the last twelve months, Lifestyle International Holdings's P/E ratio is 9.93. That is equivalent to an earnings yield of about 10%.
Check out our latest analysis for Lifestyle International Holdings
How Do I Calculate Lifestyle International Holdings's Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Lifestyle International Holdings:
P/E of 9.93 = HK$10.7 ÷ HK$1.08 (Based on the trailing twelve months to December 2018.)
Is A High Price-to-Earnings 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 Lifestyle International Holdings's P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Lifestyle International Holdings has a P/E ratio that is roughly in line with the multiline retail industry average (10).
Lifestyle International Holdings's P/E tells us that market participants think its prospects are roughly in line with its industry. So if Lifestyle International Holdings 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
Probably the most important factor in determining what P/E a company trades on is the earnings growth. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Lifestyle International Holdings's earnings per share fell by 40% in the last twelve months. But it has grown its earnings per share by 3.3% per year over the last three years. And over the longer term (5 years) earnings per share have decreased 6.1% annually. This could justify a pessimistic P/E.
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. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).