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Can Shoucheng Holdings Limited's (HKG:697) Weak Financials Pull The Plug On The Stock's Current Momentum On Its Share Price?

Simply Wall St ·  {{timeTz}}

Shoucheng Holdings' (HKG:697) stock is up by a considerable 19% over the past three months. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimatley dictates market outcomes. In this article, we decided to focus on Shoucheng Holdings' ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Shoucheng Holdings

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Shoucheng Holdings is:

8.2% = HK$881m ÷ HK$11b (Based on the trailing twelve months to June 2022).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each HK$1 of shareholders' capital it has, the company made HK$0.08 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company's earnings growth potential. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Shoucheng Holdings' Earnings Growth And 8.2% ROE

At first glance, Shoucheng Holdings' ROE doesn't look very promising. However, given that the company's ROE is similar to the average industry ROE of 7.7%, we may spare it some thought. But then again, Shoucheng Holdings' five year net income shrunk at a rate of 25%. Remember, the company's ROE is a bit low to begin with. Therefore, the decline in earnings could also be the result of this.

So, as a next step, we compared Shoucheng Holdings' performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 7.7% in the same period.

past-earnings-growthSEHK:697 Past Earnings Growth August 29th 2022

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. What is 697 worth today? The intrinsic value infographic in our free research report helps visualize whether 697 is currently mispriced by the market.

Is Shoucheng Holdings Efficiently Re- investing Its Profits?

With a high three-year median payout ratio of 76% (implying that 24% of the profits are retained), most of Shoucheng Holdings' profits are being paid to shareholders, which explains the company's shrinking earnings. The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. Our risks dashboard should have the 2 risks we have identified for Shoucheng Holdings.

Additionally, Shoucheng Holdings has paid dividends over a period of three years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning Shoucheng Holdings. As a result of its low ROE and lack of much reinvestment into the business, the company has seen a disappointing earnings growth rate. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. You can do your own research on Shoucheng Holdings and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

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