Should We Worry About Hebei Yichen Industrial Group Corporation Limited's (HKG:1596) P/E Ratio?

Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll look at Hebei Yichen Industrial Group Corporation Limited's (HKG:1596) P/E ratio and reflect on what it tells us about the company's share price. Looking at earnings over the last twelve months, Hebei Yichen Industrial Group has a P/E ratio of 21.38. That means that at current prices, buyers pay HK$21.38 for every HK$1 in trailing yearly profits.

See our latest analysis for Hebei Yichen Industrial Group

How Do You Calculate A P/E Ratio?

The formula for P/E is:

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

Or for Hebei Yichen Industrial Group:

P/E of 21.38 = CNY3.66 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CNY0.17 (Based on the year to June 2019.)

Is A High P/E Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. 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.

Does Hebei Yichen Industrial Group Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio essentially measures market expectations of a company. As you can see below, Hebei Yichen Industrial Group has a higher P/E than the average company (9.9) in the machinery industry.

Hebei Yichen Industrial Group's P/E tells us that market participants think the company will perform better than its industry peers, going forward. 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

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. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.

Hebei Yichen Industrial Group saw earnings per share decrease by 2.4% last year. But it has grown its earnings per share by 11% per year over the last five years. And over the longer term (3 years) earnings per share have decreased 26% annually. So you wouldn't expect a very high P/E.

Don't Forget: The P/E Does Not Account For Debt or Bank Deposits

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. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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.

Hebei Yichen Industrial Group's Balance Sheet

Since Hebei Yichen Industrial Group holds net cash of CN¥62m, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Bottom Line On Hebei Yichen Industrial Group's P/E Ratio

Hebei Yichen Industrial Group trades on a P/E ratio of 21.4, which is above its market average of 9.9. Falling earnings per share is probably keeping traditional value investors away, but the healthy balance sheet means the company retains potential for future growth. If fails to eventuate, the current high P/E could prove to be temporary, as the share price falls.

Investors have an opportunity when market expectations about a stock are wrong. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. We don't have analyst forecasts, but you might want to assess this data-rich visualization of earnings, revenue and cash flow.

But note: Hebei Yichen Industrial Group 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.