It's great to see Kin Yat Holdings (HKG:638) shareholders have their patience rewarded with a 32% share price pop in the last month. But shareholders may not all be feeling jubilant, since the share price is still down 15% in the last year.
All else being equal, a sharp share price increase should make a stock less attractive to potential investors. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that deep value investors might steer clear when expectations of a company are too high. 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.
How Does Kin Yat Holdings's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 3.49 that sentiment around Kin Yat Holdings isn't particularly high. We can see in the image below that the average P/E (13.0) for companies in the consumer durables industry is higher than Kin Yat Holdings's P/E.
Its relatively low P/E ratio indicates that Kin Yat Holdings shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Kin Yat Holdings, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
It's great to see that Kin Yat Holdings grew EPS by 10% in the last year. And earnings per share have improved by 44% annually, over the last five years. So one might expect an above average P/E ratio.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. 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.
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).
Kin Yat Holdings's Balance Sheet
Kin Yat Holdings's net debt is 87% of its market cap. If you want to compare its P/E ratio to other companies, you should absolutely keep in mind it has significant borrowings.
The Verdict On Kin Yat Holdings's P/E Ratio
Kin Yat Holdings has a P/E of 3.5. That's below the average in the HK market, which is 10.5. The company may have significant debt, but EPS growth was good last year. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue. What is very clear is that the market has become less pessimistic about Kin Yat Holdings over the last month, with the P/E ratio rising from 2.6 back then to 3.5 today. 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.
Investors should be looking to buy stocks that the market is wrong about. 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. Although we don't have analyst forecasts you might want to assess this data-rich visualization of earnings, revenue and cash flow.
You might be able to find a better buy than Kin Yat Holdings. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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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