In This Article:
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The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll look at IMAX China Holding, Inc.'s (HKG:1970) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, IMAX China Holding's P/E ratio is 22.2. That corresponds to an earnings yield of approximately 4.5%.
See our latest analysis for IMAX China Holding
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for IMAX China Holding:
P/E of 22.2 = $2.65 (Note: this is the share price in the reporting currency, namely, USD ) ÷ $0.12 (Based on the trailing twelve months to December 2018.)
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.'
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. That means even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
IMAX China Holding shrunk earnings per share by 2.6% last year. But it has grown its earnings per share by 112% per year over the last three years. And it has shrunk its earnings per share by 52% per year over the last five years. So we might expect a relatively low P/E.
How Does IMAX China Holding's P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. You can see in the image below that the average P/E (17.9) for companies in the entertainment industry is lower than IMAX China Holding's P/E.
That means that the market expects IMAX China Holding will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. Theoretically, a business can improve its earnings (and produce a lower P/E in the future), by taking on debt (or spending its remaining cash).