XD's (HKG:2400) stock is up by a considerable 43% over the past three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Specifically, we decided to study XD's ROE in this article.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
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 XD is:
4.3% = CN¥82m ÷ CN¥1.9b (Based on the trailing twelve months to June 2024).
The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every HK$1 worth of equity, the company was able to earn HK$0.04 in profit.
Check out our latest analysis for XD
What Is The Relationship Between ROE And 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.
XD's Earnings Growth And 4.3% ROE
As you can see, XD's ROE looks pretty weak. Even compared to the average industry ROE of 8.1%, the company's ROE is quite dismal. Given the circumstances, the significant decline in net income by 20% seen by XD over the last five years is not surprising. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. Such as - low earnings retention or poor allocation of capital.
So, as a next step, we compared XD's 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 20% over the last few years.
Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is 2400 fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is XD Using Its Retained Earnings Effectively?
XD doesn't pay any regular dividends, meaning that the company is keeping all of its profits, which makes us wonder why it is retaining its earnings if it can't use them to grow its business. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.
Summary
Overall, we have mixed feelings about XD. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.