This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll show how you can use Kingdee International Software Group Company Limited's (HKG:268) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Kingdee International Software Group has a P/E ratio of 73.70. In other words, at today's prices, investors are paying HK$73.70 for every HK$1 in prior year profit.
How Do I Calculate Kingdee International Software Group's Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for Kingdee International Software Group:
P/E of 73.70 = CNY8.10 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CNY0.11 (Based on the year to June 2019.)
Is A High Price-to-Earnings Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That isn't a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business's prospects, relative to stocks with a lower P/E.
How Does Kingdee International Software Group's P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below, Kingdee International Software Group has a much higher P/E than the average company (12.3) in the software industry.
Its relatively high P/E ratio indicates that Kingdee International Software Group shareholders think it will perform better than other companies in its industry classification. 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
Probably the most important factor in determining what P/E a company trades on is the earnings growth. When earnings grow, the 'E' increases, over time. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Kingdee International Software Group saw earnings per share decrease by 15% last year. But it has grown its earnings per share by 7.0% per year over the last five years.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. 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.
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.
Kingdee International Software Group's Balance Sheet
The extra options and safety that comes with Kingdee International Software Group's CN¥1.7b net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Verdict On Kingdee International Software Group's P/E Ratio
With a P/E ratio of 73.7, Kingdee International Software Group is expected to grow earnings very strongly in the years to come. The recent drop in earnings per share would make some investors cautious, but the relatively strong balance sheet will allow the company time to invest in growth. Clearly, the high P/E indicates shareholders think it will!
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 report on the analyst consensus forecasts could help you make a master move on this stock.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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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