What Does Colour Life Services Group Co., Limited's (HKG:1778) P/E Ratio Tell You?

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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Colour Life Services Group Co., Limited's (HKG:1778) P/E ratio and reflect on what it tells us about the company's share price. Based on the last twelve months, Colour Life Services Group's P/E ratio is 10.44. That is equivalent to an earnings yield of about 9.6%.

Check out our latest analysis for Colour Life Services Group

How Do You Calculate A P/E Ratio?

The formula for price to earnings is:

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

Or for Colour Life Services Group:

P/E of 10.44 = CN¥3.96 (Note: this is the share price in the reporting currency, namely, CNY ) ÷ CN¥0.38 (Based on the trailing twelve months to December 2018.)

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 Growth Rates Impact P/E Ratios

Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. Earnings growth means that in the future the 'E' will be higher. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.

Colour Life Services Group increased earnings per share by an impressive 18% over the last twelve months. And it has bolstered its earnings per share by 44% per year over the last five years. So one might expect an above average P/E ratio.

How Does Colour Life Services Group's P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. You can see in the image below that the average P/E (6.1) for companies in the real estate industry is lower than Colour Life Services Group's P/E.

That means that the market expects Colour Life Services Group will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.

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. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.

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.

So What Does Colour Life Services Group's Balance Sheet Tell Us?

Colour Life Services Group's net debt is 19% of its market cap. That's enough debt to impact the P/E ratio a little; so keep it in mind if you're comparing it to companies without debt.

The Bottom Line On Colour Life Services Group's P/E Ratio

Colour Life Services Group has a P/E of 10.4. That's around the same as the average in the HK market, which is 11. When you consider the impressive EPS growth last year (along with some debt), it seems the market has questions about whether rapid EPS growth will be sustained. Because analysts are predicting more growth in the future, one might have expected to see a higher P/E ratio. You can taker closer look at the fundamentals, here.

Investors should be looking to buy stocks that the market is wrong about. 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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

You might be able to find a better buy than Colour Life Services Group. 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).

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.

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. Thank you for reading.