This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll show how you can use Shengjing Bank Co., Ltd.'s (HKG:2066) P/E ratio to inform your assessment of the investment opportunity. What is Shengjing Bank's P/E ratio? Well, based on the last twelve months it is 5.76. In other words, at today's prices, investors are paying HK$5.76 for every HK$1 in prior year profit.
How Do You Calculate Shengjing Bank's P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for Shengjing Bank:
P/E of 5.76 = HK$5.41 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ HK$0.94 (Based on the year to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each HK$1 the company has earned over the last year. 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 Shengjing Bank'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. The image below shows that Shengjing Bank has a P/E ratio that is roughly in line with the banks industry average (5.9).
Its P/E ratio suggests that Shengjing Bank shareholders think that in the future it will perform about the same as other companies in its industry classification. 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
If earnings fall then in the future the 'E' will be lower. That means even if the current P/E is low, it will increase over time if the share price stays flat. Then, a higher P/E might scare off shareholders, pushing the share price down.
Shengjing Bank saw earnings per share decrease by 21% last year. And over the longer term (5 years) earnings per share have decreased 6.5% annually. This growth rate might warrant a below average P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. That means it doesn't take debt or cash into account. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
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.
Is Debt Impacting Shengjing Bank's P/E?
Shengjing Bank has net cash of CN¥26b. This is fairly high at 54% 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 Verdict On Shengjing Bank's P/E Ratio
Shengjing Bank trades on a P/E ratio of 5.8, which is below the HK market average of 10.5. The recent drop in earnings per share would almost certainly temper expectations, the relatively strong balance sheet will allow the company time to invest in growth. If it achieves that, then there's real potential that the low P/E could eventually indicate undervaluation.
Investors have an opportunity when market expectations about a stock are wrong. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. Although we don't have analyst forecasts you could get a better understanding of its growth by checking out this more detailed historical graph of earnings, revenue and cash flow.
But note: Shengjing Bank 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 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.
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.