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A Rising Share Price Has Us Looking Closely At BYD Electronic (International) Company Limited's (HKG:285) P/E Ratio

Simply Wall St

BYD Electronic (International) (HKG:285) shares have continued recent momentum with a 31% gain in the last month alone. And the full year gain of 42% isn't too shabby, either!

Assuming no other changes, a sharply higher share price makes a stock less attractive to potential buyers. 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. The implication here is that deep value investors might steer clear when expectations of a company are too high. 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.

Check out our latest analysis for BYD Electronic (International)

Does BYD Electronic (International) Have A Relatively High Or Low P/E For Its Industry?

We can tell from its P/E ratio of 18.29 that there is some investor optimism about BYD Electronic (International). The image below shows that BYD Electronic (International) has a higher P/E than the average (13.6) P/E for companies in the communications industry.

SEHK:285 Price Estimation Relative to Market, November 25th 2019

That means that the market expects BYD Electronic (International) will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. So further research is always essential. 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. When earnings grow, the 'E' increases, over time. That means even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.

BYD Electronic (International)'s earnings per share fell by 32% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 12%.

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. That means it doesn't take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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.

BYD Electronic (International)'s Balance Sheet

BYD Electronic (International) has net cash of CN¥2.5b. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.

The Bottom Line On BYD Electronic (International)'s P/E Ratio

BYD Electronic (International) has a P/E of 18.3. That's higher than the average in its market, which is 10.2. The recent drop in earnings per share would make some investors cautious, but the net cash position means the company has time to improve: and the high P/E suggests the market thinks it will. What we know for sure is that investors have become more excited about BYD Electronic (International) recently, since they have pushed its P/E ratio from 13.9 to 18.3 over the last month. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.

Investors have an opportunity when market expectations about a stock are wrong. 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 visual report on analyst forecasts could hold the key to an excellent investment decision.

But note: BYD Electronic (International) 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.