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Is Shenzhou International Group Holdings Limited's (HKG:2313) High P/E Ratio A Problem For Investors?

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Simply Wall St
·4 min read
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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll show how you can use Shenzhou International Group Holdings Limited's (HKG:2313) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Shenzhou International Group Holdings's P/E ratio is 23.46. That means that at current prices, buyers pay HK$23.46 for every HK$1 in trailing yearly profits.

View our latest analysis for Shenzhou International Group Holdings

How Do I Calculate Shenzhou International Group Holdings's Price To Earnings Ratio?

The formula for P/E is:

Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)

Or for Shenzhou International Group Holdings:

P/E of 23.46 = CN¥79.506 ÷ CN¥3.390 (Based on the year to December 2019.)

(Note: the above calculation uses the share price in the reporting currency, namely CNY and the calculation results may not be precise due to rounding.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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 Shenzhou International Group Holdings's P/E Ratio Compare To Its Peers?

The P/E ratio essentially measures market expectations of a company. As you can see below, Shenzhou International Group Holdings has a much higher P/E than the average company (7.2) in the luxury industry.

SEHK:2313 Price Estimation Relative to Market May 25th 2020
SEHK:2313 Price Estimation Relative to Market May 25th 2020

That means that the market expects Shenzhou International Group Holdings will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. So investors should delve deeper. I like to check if company insiders have been buying or 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. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

It's great to see that Shenzhou International Group Holdings grew EPS by 12% in the last year. And its annual EPS growth rate over 5 years is 18%. So one might expect an above average P/E ratio.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. So it won't reflect the advantage of cash, or disadvantage of debt. 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 expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.

So What Does Shenzhou International Group Holdings's Balance Sheet Tell Us?

Shenzhou International Group Holdings has net cash of CN¥7.1b. 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 Shenzhou International Group Holdings's P/E Ratio

Shenzhou International Group Holdings has a P/E of 23.5. That's higher than the average in its market, which is 9.3. With cash in the bank the company has plenty of growth options -- and it is already on the right track. Therefore it seems reasonable that the market would have relatively high expectations of the company

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 report on the analyst consensus forecasts could help you make a master move on this stock.

You might be able to find a better buy than Shenzhou International Group 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).

Love or hate this article? Concerned about the content? Get in touch with us directly. Alternatively, email 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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.