Should You Be Tempted To Sell Binjiang Services Group Co. Ltd. (HKG:3316) Because Of Its P/E Ratio?

Simply Wall St

Fri, Jun 14, 2019, 7:59 PM

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we'll show how Binjiang Services Group Co. Ltd.'s (HKG:3316) P/E ratio could help you assess the value on offer. Looking at earnings over the last twelve months, Binjiang Services Group has a P/E ratio of 18.14. In other words, at today's prices, investors are paying HK$18.14 for every HK$1 in prior year profit.

View our latest analysis for Binjiang Services Group

How Do I Calculate A Price To Earnings 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 Binjiang Services Group:

P/E of 18.14 = CN¥6.37 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥0.35 (Based on the trailing twelve months to December 2018.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. 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 Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. 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. Then, a lower P/E should attract more buyers, pushing the share price up.

It's great to see that Binjiang Services Group grew EPS by 23% in the last year. And it has bolstered its earnings per share by 44% per year over the last five years. This could arguably justify a relatively high P/E ratio.

Does Binjiang Services Group Have A Relatively High Or Low P/E For Its Industry?

We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Binjiang Services Group has a higher P/E than the average (13.4) P/E for companies in the commercial services industry.

SEHK:3316 Price Estimation Relative to Market, June 15th 2019

Binjiang Services Group's P/E tells us that market participants think the company will perform better than its industry peers, going forward. Shareholders are clearly optimistic, but the future is always uncertain. So investors should delve deeper. I like to check if company insiders have been buying or selling.

Don't Forget: The P/E Does Not Account For Debt or Bank Deposits

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).

Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.

Binjiang Services Group's Balance Sheet

With net cash of CN¥473m, Binjiang Services Group has a very strong balance sheet, which may be important for its business. Having said that, at 27% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.

The Verdict On Binjiang Services Group's P/E Ratio

Binjiang Services Group's P/E is 18.1 which is above average (10.8) in the HK market. Its net cash position supports a higher P/E ratio, as does its solid recent earnings growth. Therefore it seems reasonable that the market would have relatively high expectations of the company

Investors have an opportunity when market expectations about a stock are wrong. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. We don't have analyst forecasts, but shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.

But note: Binjiang Services Group may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

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.

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. Thank you for reading.

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