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How Does Smart Globe Holdings's (HKG:8485) 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, Smart Globe Holdings (HKG:8485) shares have been powering on, with a gain of 45% in the last thirty days. That's tops off a massive gain of 107% in the last year.

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. 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). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.

See our latest analysis for Smart Globe Holdings

How Does Smart Globe Holdings's P/E Ratio Compare To Its Peers?

Smart Globe Holdings's P/E of 6.52 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (12.5) for companies in the commercial services industry is higher than Smart Globe Holdings's P/E.

SEHK:8485 Price Estimation Relative to Market, January 7th 2020

Smart Globe Holdings's P/E tells us that market participants think it will not fare as well as its peers in the same industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. You should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. 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.

Smart Globe Holdings's earnings made like a rocket, taking off 103% last year. The sweetener is that the annual five year growth rate of 16% is also impressive. With that kind of growth rate we would generally expect a high P/E ratio.

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

The 'Price' in P/E reflects the market capitalization of the company. So it won't reflect the advantage of cash, or disadvantage of debt. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

How Does Smart Globe Holdings's Debt Impact Its P/E Ratio?

With net cash of HK$32m, Smart Globe Holdings has a very strong balance sheet, which may be important for its business. Having said that, at 26% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.

The Verdict On Smart Globe Holdings's P/E Ratio

Smart Globe Holdings has a P/E of 6.5. That's below the average in the HK market, which is 10.7. Not only should the net cash position reduce risk, but the recent growth has been impressive. The below average P/E ratio suggests that market participants don't believe the strong growth will continue. What we know for sure is that investors are becoming less uncomfortable about Smart Globe Holdings's prospects, since they have pushed its P/E ratio from 4.5 to 6.5 over the last month. For those who like to invest in turnarounds, that might mean it's time to put the stock on a watchlist, or research it. But others might consider the opportunity to have passed.

When the market is wrong about a stock, it gives savvy investors an opportunity. 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. We don't have analyst forecasts, but shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.

But note: Smart Globe Holdings 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).

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.