Gushengtang Holdings (HKG:2273) has had a rough three months with its share price down 28%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. In this article, we decided to focus on Gushengtang Holdings' ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
View our latest analysis for Gushengtang Holdings
How To Calculate Return On Equity?
Return on equity can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Gushengtang Holdings is:
11% = CN¥267m ÷ CN¥2.3b (Based on the trailing twelve months to June 2024).
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$0.11 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.
Gushengtang Holdings' Earnings Growth And 11% ROE
To start with, Gushengtang Holdings' ROE looks acceptable. On comparing with the average industry ROE of 7.2% the company's ROE looks pretty remarkable. Probably as a result of this, Gushengtang Holdings was able to see an impressive net income growth of 69% over the last five years. We believe that there might also be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.
Next, on comparing with the industry net income growth, we found that Gushengtang Holdings' growth is quite high when compared to the industry average growth of 9.0% in the same period, which is great to see.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Gushengtang Holdings fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Gushengtang Holdings Efficiently Re-investing Its Profits?
Gushengtang Holdings' three-year median payout ratio to shareholders is 8.3%, which is quite low. This implies that the company is retaining 92% of its profits. So it seems like the management is reinvesting profits heavily to grow its business and this reflects in its earnings growth number.
Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 9.4%. Still, forecasts suggest that Gushengtang Holdings' future ROE will rise to 17% even though the the company's payout ratio is not expected to change by much.
Conclusion
Overall, we are quite pleased with Gushengtang Holdings' performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.
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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.