This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll look at Hang Lung Properties Limited's (HKG:101) P/E ratio and reflect on what it tells us about the company's share price. Looking at earnings over the last twelve months, Hang Lung Properties has a P/E ratio of 12.71. That means that at current prices, buyers pay HK$12.71 for every HK$1 in trailing yearly profits.
How Do I Calculate Hang Lung Properties's Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Hang Lung Properties:
P/E of 12.71 = HKD17.44 ÷ HKD1.37 (Based on the year to December 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each HKD1 of company earnings. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price'.
Does Hang Lung Properties Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (6.4) for companies in the real estate industry is lower than Hang Lung Properties's P/E.
Hang Lung Properties's P/E tells us that market participants think the company will perform better than its industry peers, going forward. Clearly the market expects growth, but it isn't guaranteed. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
How Growth Rates Impact P/E Ratios
When earnings fall, the 'E' decreases, over time. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
Hang Lung Properties shrunk earnings per share by 24% over the last year. And EPS is down 12% a year, over the last 5 years. This might lead to muted expectations.
Remember: P/E Ratios Don't Consider The Balance Sheet
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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.
Hang Lung Properties's Balance Sheet
Hang Lung Properties's net debt equates to 35% of its market capitalization. You'd want to be aware of this fact, but it doesn't bother us.
The Bottom Line On Hang Lung Properties's P/E Ratio
Hang Lung Properties's P/E is 12.7 which is above average (9.9) in its market. With some debt but no EPS growth last year, the market has high expectations of future profits.
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than Hang Lung Properties. So you may wish to see this free collection of other companies that have grown earnings strongly.
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.