With its stock down 11% over the past week, it is easy to disregard Nongfu Spring (HKG:9633). 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 Nongfu Spring's ROE.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
How Do You Calculate Return On Equity?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Nongfu Spring is:
38% = CN¥12b ÷ CN¥32b (Based on the trailing twelve months to December 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$0.38 in profit.
See our latest analysis for Nongfu Spring
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. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Nongfu Spring's Earnings Growth And 38% ROE
First thing first, we like that Nongfu Spring has an impressive ROE. Additionally, the company's ROE is higher compared to the industry average of 13% which is quite remarkable. Under the circumstances, Nongfu Spring's considerable five year net income growth of 21% was to be expected.
Next, on comparing with the industry net income growth, we found that Nongfu Spring's growth is quite high when compared to the industry average growth of 17% 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. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Is 9633 fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Nongfu Spring Efficiently Re-investing Its Profits?
Nongfu Spring's significant three-year median payout ratio of 70% (where it is retaining only 30% of its income) suggests that the company has been able to achieve a high growth in earnings despite returning most of its income to shareholders.
Additionally, Nongfu Spring has paid dividends over a period of four years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 82%. Accordingly, forecasts suggest that Nongfu Spring's future ROE will be 39% which is again, similar to the current ROE.
Summary
In total, we are pretty happy with Nongfu Spring's performance. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. With that said, the latest industry analyst forecasts reveal that the company's earnings growth is expected to slow down. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page 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.