Why China New Higher Education Group Limited’s (HKG:2001) High P/E Ratio Isn’t Necessarily A Bad Thing

Terrence Jolly

Mon, Feb 4, 2019, 6:26 PM

The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll show how you can use China New Higher Education Group Limited’s (HKG:2001) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, China New Higher Education Group’s P/E ratio is 20.8. In other words, at today’s prices, investors are paying HK$20.8 for every HK$1 in prior year profit.

See our latest analysis for China New Higher Education Group

How Do You Calculate A P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share (in the reporting currency) ÷ Earnings per Share (EPS)

Or for China New Higher Education Group:

P/E of 20.8 = CN¥3.97 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥0.19 (Based on the year to June 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 isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.

How Growth Rates Impact P/E Ratios

Earnings growth rates have a big influence on P/E ratios. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.

Notably, China New Higher Education Group grew EPS by a whopping 64% in the last year.

How Does China New Higher Education Group’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 China New Higher Education Group has a higher P/E than the average (16.8) P/E for companies in the consumer services industry.

Its relatively high P/E ratio indicates that China New Higher Education Group shareholders think it will perform better than other companies in its industry classification. 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.

Remember: P/E Ratios Don’t Consider The Balance Sheet

Don’t forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.