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How Does China Agri-Industries Holdings's (HKG:606) P/E Compare To Its Industry, After Its Big Share Price Gain?

Simply Wall St

It's really great to see that even after a strong run, China Agri-Industries Holdings (HKG:606) shares have been powering on, with a gain of 54% in the last thirty days. And the full year gain of 45% isn't too shabby, either!

All else being equal, a sharp share price increase should make a stock less attractive to potential investors. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that deep value investors might steer clear when expectations of a company are too high. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.

View our latest analysis for China Agri-Industries Holdings

Does China Agri-Industries Holdings Have A Relatively High Or Low P/E For Its Industry?

China Agri-Industries Holdings's P/E of 20.61 indicates some degree of optimism towards the stock. As you can see below, China Agri-Industries Holdings has a higher P/E than the average company (15.8) in the food industry.

SEHK:606 Price Estimation Relative to Market, November 28th 2019

That means that the market expects China Agri-Industries Holdings will outperform other companies in its industry. 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.

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. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

China Agri-Industries Holdings saw earnings per share decrease by 34% last year. But it has grown its earnings per share by 13% per year over the last five years.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn't take debt or cash into account. 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).

While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.

How Does China Agri-Industries Holdings's Debt Impact Its P/E Ratio?

China Agri-Industries Holdings's net debt is 80% of its market cap. This is enough debt that you'd have to make some adjustments before using the P/E ratio to compare it to a company with net cash.

The Verdict On China Agri-Industries Holdings's P/E Ratio

China Agri-Industries Holdings's P/E is 20.6 which is above average (10.2) in its market. With meaningful debt and a lack of recent earnings growth, the market has high expectations that the business will earn more in the future. What is very clear is that the market has become significantly more optimistic about China Agri-Industries Holdings over the last month, with the P/E ratio rising from 13.4 back then to 20.6 today. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.

When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.

You might be able to find a better buy than China Agri-Industries Holdings. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).

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.

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. Thank you for reading.