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Despite Its High P/E Ratio, Is Wharf Real Estate Investment Company Limited (HKG:1997) Still Undervalued?

The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll look at Wharf Real Estate Investment Company Limited’s (HKG:1997) P/E ratio and reflect on what it tells us about the company’s share price. Wharf Real Estate Investment has a P/E ratio of 6.69, based on the last twelve months. That corresponds to an earnings yield of approximately 15%.

Check out our latest analysis for Wharf Real Estate Investment

How Do You Calculate Wharf Real Estate Investment’s P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)

Or for Wharf Real Estate Investment:

P/E of 6.69 = HK$49.6 ÷ HK$7.41 (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 is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. When earnings grow, the ‘E’ increases, over time. 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.

It’s nice to see that Wharf Real Estate Investment grew EPS by a stonking 117% in the last year.

How Does Wharf Real Estate Investment’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (5.3) for companies in the real estate industry is lower than Wharf Real Estate Investment’s P/E.

SEHK:1997 PE PEG Gauge November 22nd 18

Its relatively high P/E ratio indicates that Wharf Real Estate Investment shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and 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. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in 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.

Wharf Real Estate Investment’s Balance Sheet

Wharf Real Estate Investment has net debt worth 27% of its market capitalization. If you want to compare its P/E ratio to other companies, you should absolutely keep in mind it has significant borrowings.

The Bottom Line On Wharf Real Estate Investment’s P/E Ratio

Wharf Real Estate Investment’s P/E is 6.7 which is below average (10.7) in the HK market. The EPS growth last year was strong, and debt levels are quite reasonable. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. So this free report on the analyst consensus forecasts could help you make a master move on this stock.

But note: Wharf Real Estate Investment 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).

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.