Here's What E-Commodities Holdings Limited's (HKG:1733) P/E Ratio Is Telling Us

Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we'll show how E-Commodities Holdings Limited's (HKG:1733) P/E ratio could help you assess the value on offer. What is E-Commodities Holdings's P/E ratio? Well, based on the last twelve months it is 1.61. That is equivalent to an earnings yield of about 62.2%.

See our latest analysis for E-Commodities Holdings

How Do You Calculate A P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)

Or for E-Commodities Holdings:

P/E of 1.61 = HKD0.34 ÷ HKD0.21 (Based on the year to June 2019.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that buyers have to pay a higher price for each HKD1 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.

Does E-Commodities Holdings Have A Relatively High Or Low P/E For Its Industry?

We can get an indication of market expectations by looking at the P/E ratio. If you look at the image below, you can see E-Commodities Holdings has a lower P/E than the average (10.3) in the metals and mining industry classification.

Its relatively low P/E ratio indicates that E-Commodities Holdings shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with E-Commodities Holdings, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.

How Growth Rates Impact P/E Ratios

Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.

E-Commodities Holdings saw earnings per share decrease by 26% last year. And over the longer term (3 years) earnings per share have decreased 68% annually. This growth rate might warrant a low 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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

How Does E-Commodities Holdings's Debt Impact Its P/E Ratio?

E-Commodities Holdings has net debt worth a very significant 107% of its market capitalization. This is a relatively high level of debt, so the stock probably deserves a relatively low P/E ratio. Keep that in mind when comparing it to other companies.

The Bottom Line On E-Commodities Holdings's P/E Ratio

E-Commodities Holdings's P/E is 1.6 which is below average (10.4) in the HK market. The P/E reflects market pessimism that probably arises from the lack of recent EPS growth, paired with significant leverage.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. Although we don't have analyst forecasts shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.

But note: E-Commodities Holdings 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.