This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll apply a basic P/E ratio analysis to TK Group (Holdings) Limited's (HKG:2283), to help you decide if the stock is worth further research. TK Group (Holdings) has a price to earnings ratio of 9.93, based on the last twelve months. That means that at current prices, buyers pay HK$9.93 for every HK$1 in trailing yearly profits.
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 TK Group (Holdings):
P/E of 9.93 = HK$3.86 ÷ HK$0.39 (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 isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
How Does TK Group (Holdings)'s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. As you can see below TK Group (Holdings) has a P/E ratio that is fairly close for the average for the machinery industry, which is 10.2.
TK Group (Holdings)'s P/E tells us that market participants think its prospects are roughly in line with its industry. The company could surprise by performing better than average, in the future. I would further inform my view by checking insider buying and selling., among other things.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. Earnings growth means that in the future the 'E' will be higher. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
TK Group (Holdings) saw earnings per share decrease by 2.4% last year. But it has grown its earnings per share by 16% per year over the last five years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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 TK Group (Holdings)'s Debt Impact Its P/E Ratio?
TK Group (Holdings) has net cash of HK$173m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Verdict On TK Group (Holdings)'s P/E Ratio
TK Group (Holdings)'s P/E is 9.9 which is about average (10.4) in the HK market. While the lack of recent growth is probably muting optimism, the relatively strong balance sheet will allow the company to weather a storm; so it isn't very surprising to see that it has a P/E ratio close to the market average.
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. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
Of course you might be able to find a better stock than TK Group (Holdings). So you may wish to see this free collection of other companies that have grown earnings strongly.
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.
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.