China SXT Pharmaceuticals (NASDAQ:SXTC) shares have had a really impressive month, gaining 45%, after some slippage. However, that doesn't change the fact that longer term shareholders might have been mercilessly wrecked by the 74% share price decline throughout the year.
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). So some would prefer to hold off buying when there is a lot of optimism towards a stock. Perhaps the simplest way to get a read on investors' expectations of a business 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.
How Does China SXT Pharmaceuticals's P/E Ratio Compare To Its Peers?
China SXT Pharmaceuticals has a P/E ratio of 14.83. As you can see below China SXT Pharmaceuticals has a P/E ratio that is fairly close for the average for the personal products industry, which is 15.6.
China SXT Pharmaceuticals's P/E tells us that market participants think its prospects are roughly in line with its industry. So if China SXT Pharmaceuticals actually outperforms its peers going forward, that should be a positive for the share price. Checking factors such as director buying and selling. could help you form your own view on if that will happen.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. 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 China SXT Pharmaceuticals grew EPS by a stonking 26% in the last year. And it has bolstered its earnings per share by 60% per year over the last five years. With that performance, I would expect it to have an above average P/E ratio.
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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on 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.
How Does China SXT Pharmaceuticals's Debt Impact Its P/E Ratio?
China SXT Pharmaceuticals has net cash of US$6.4m. This is fairly high at 21% of its market capitalization. That might mean balance sheet strength is important to the business, but should also help push the P/E a bit higher than it would otherwise be.
The Verdict On China SXT Pharmaceuticals's P/E Ratio
China SXT Pharmaceuticals trades on a P/E ratio of 14.8, which is below the US market average of 18.3. Not only should the net cash position reduce risk, but the recent growth has been impressive. The relatively low P/E ratio implies the market is pessimistic. What we know for sure is that investors have become more excited about China SXT Pharmaceuticals recently, since they have pushed its P/E ratio from 10.2 to 14.8 over the last month. 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. As value investor Benjamin Graham famously said, 'In the short run, the market is a voting machine but in the long run, it is a weighing machine. We don't have analyst forecasts, but you might want to assess this data-rich visualization of earnings, revenue and cash flow.
You might be able to find a better buy than China SXT Pharmaceuticals. 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 email@example.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.
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