Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll look at BII Railway Transportation Technology Holdings Company Limited's (HKG:1522) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, BII Railway Transportation Technology Holdings's P/E ratio is 14.64. In other words, at today's prices, investors are paying HK$14.64 for every HK$1 in prior year profit.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for BII Railway Transportation Technology Holdings:
P/E of 14.64 = HK$0.61 ÷ HK$0.042 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each HK$1 of company earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Does BII Railway Transportation Technology Holdings's P/E Ratio Compare To Its Peers?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. You can see in the image below that the average P/E (13.7) for companies in the software industry is roughly the same as BII Railway Transportation Technology Holdings's P/E.
BII Railway Transportation Technology Holdings's P/E tells us that market participants think its prospects are roughly in line with its industry. If the company has better than average prospects, then the market might be underestimating it. I would further inform my view by checking insider buying and selling., among other things.
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. 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.
BII Railway Transportation Technology Holdings's 117% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. Even better, EPS is up 72% per year over three years. So you might say it really deserves to have an above-average P/E ratio. Unfortunately, earnings per share are down 1.9% a year, over 5 years.
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. 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.
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.
Is Debt Impacting BII Railway Transportation Technology Holdings's P/E?
BII Railway Transportation Technology Holdings has net cash of HK$390m. This is fairly high at 30% 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 Bottom Line On BII Railway Transportation Technology Holdings's P/E Ratio
BII Railway Transportation Technology Holdings's P/E is 14.6 which is above average (10.7) in its market. Its net cash position is the cherry on top of its superb EPS growth. So based on this analysis we'd expect BII Railway Transportation Technology Holdings to have a high P/E ratio.
Investors should be looking to buy stocks that the market is wrong about. 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.' So this free report on the analyst consensus forecasts could help you make a master move on this stock.
Of course you might be able to find a better stock than BII Railway Transportation Technology Holdings. So you may wish to see this free collection of other companies that have grown earnings strongly.
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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. Thank you for reading.