U.S. Markets open in 2 hrs 46 mins

How Does Ching Lee Holdings's (HKG:3728) P/E Compare To Its Industry, After Its Big Share Price Gain?

Simply Wall St

Ching Lee Holdings (HKG:3728) shares have had a really impressive month, gaining 33%, after some slippage. While recent buyers might be laughing, long term holders might not be so pleased, since the recent gain only brings the full year return to evens.

All else being equal, a sharp share price increase should make a stock less attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. So some would prefer to hold off buying when there is a lot of optimism towards a stock. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.

Check out our latest analysis for Ching Lee Holdings

Does Ching Lee Holdings Have A Relatively High Or Low P/E For Its Industry?

Ching Lee Holdings's P/E of 30.18 indicates some degree of optimism towards the stock. The image below shows that Ching Lee Holdings has a higher P/E than the average (10.2) P/E for companies in the construction industry.

SEHK:3728 Price Estimation Relative to Market, December 19th 2019

Ching Lee Holdings's P/E tells us that market participants think the company will perform better than its industry peers, going forward. The market is optimistic about the future, but that doesn't guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.

How Growth Rates Impact P/E Ratios

Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. That means even if the current P/E is low, it will increase over time if the share price stays flat. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.

Ching Lee Holdings's earnings per share fell by 59% in the last twelve months. And over the longer term (5 years) earnings per share have decreased 19% annually. This might lead to muted expectations.

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

It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. In other words, it does not consider any debt or cash that the company may have on the balance sheet. 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).

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.

Ching Lee Holdings's Balance Sheet

Ching Lee Holdings's net debt equates to 43% of its market capitalization. While that's enough to warrant consideration, it doesn't really concern us.

The Bottom Line On Ching Lee Holdings's P/E Ratio

Ching Lee Holdings has a P/E of 30.2. That's higher than the average in its market, which is 10.5. With a bit of debt, but a lack of recent growth, it's safe to say the market is expecting improved profit performance from the company, in the next few years. What we know for sure is that investors have become much more excited about Ching Lee Holdings recently, since they have pushed its P/E ratio from 22.7 to 30.2 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.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. Although we don't have analyst forecasts shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.

Of course you might be able to find a better stock than Ching Lee Holdings. So you may wish to see this free collection of other companies that have grown earnings strongly.

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.