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Don't Sell Hong Kong Exchanges and Clearing Limited (HKG:388) Before You Read This

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we'll show how Hong Kong Exchanges and Clearing Limited's (HKG:388) P/E ratio could help you assess the value on offer. Hong Kong Exchanges and Clearing has a P/E ratio of 31.56, based on the last twelve months. In other words, at today's prices, investors are paying HK$31.56 for every HK$1 in prior year profit.

Check out our latest analysis for Hong Kong Exchanges and Clearing

How Do You Calculate Hong Kong Exchanges and Clearing's P/E Ratio?

The formula for price to earnings is:

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

Or for Hong Kong Exchanges and Clearing:

P/E of 31.56 = HK$236.400 ÷ HK$7.490 (Based on the year to December 2019.)

(Note: the above calculation results may not be precise due to rounding.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

Does Hong Kong Exchanges and Clearing 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, Hong Kong Exchanges and Clearing has a higher P/E than the average company (10.9) in the capital markets industry.

SEHK:388 Price Estimation Relative to Market April 6th 2020
SEHK:388 Price Estimation Relative to Market April 6th 2020

Its relatively high P/E ratio indicates that Hong Kong Exchanges and Clearing shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and 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. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. 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.

Hong Kong Exchanges and Clearing's earnings per share were pretty steady over the last year. But EPS is up 11% over the last 5 years.

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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. 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.

Is Debt Impacting Hong Kong Exchanges and Clearing's P/E?

Since Hong Kong Exchanges and Clearing holds net cash of HK$28b, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Bottom Line On Hong Kong Exchanges and Clearing's P/E Ratio

Hong Kong Exchanges and Clearing's P/E is 31.6 which is way above average (9.1) in its market. The recent drop in earnings per share would make some investors cautious, but the relatively strong balance sheet will allow the company time to invest in growth. Clearly, the high P/E indicates shareholders think it will!

Investors have an opportunity when market expectations about a stock are wrong. 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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E 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.