Should Weakness in Foshan Haitian Flavouring and Food Company Ltd.'s (SHSE:603288) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

Foshan Haitian Flavouring and Food (SHSE:603288) has had a rough three months with its share price down 8.2%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on Foshan Haitian Flavouring and Food'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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Foshan Haitian Flavouring and Food

How Is ROE Calculated?

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 Foshan Haitian Flavouring and Food is:

19% = CN¥5.8b ÷ CN¥31b (Based on the trailing twelve months to March 2024).

The 'return' is the yearly profit. That means that for every CN¥1 worth of shareholders' equity, the company generated CN¥0.19 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. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

A Side By Side comparison of Foshan Haitian Flavouring and Food's Earnings Growth And 19% ROE

To start with, Foshan Haitian Flavouring and Food's ROE looks acceptable. Especially when compared to the industry average of 8.2% the company's ROE looks pretty impressive. However, for some reason, the higher returns aren't reflected in Foshan Haitian Flavouring and Food's meagre five year net income growth average of 3.2%. This is interesting as the high returns should mean that the company has the ability to generate high growth but for some reason, it hasn't been able to do so. Such a scenario is likely to take place when a company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

Next, on comparing Foshan Haitian Flavouring and Food's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 2.9% over the last few years.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is 603288 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Foshan Haitian Flavouring and Food Efficiently Re-investing Its Profits?

The high three-year median payout ratio of 51% (that is, the company retains only 49% of its income) over the past three years for Foshan Haitian Flavouring and Food suggests that the company's earnings growth was lower as a result of paying out a majority of its earnings.

Moreover, Foshan Haitian Flavouring and Food has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 56%. As a result, Foshan Haitian Flavouring and Food's ROE is not expected to change by much either, which we inferred from the analyst estimate of 20% for future ROE.

Conclusion

Overall, we feel that Foshan Haitian Flavouring and Food certainly does have some positive factors to consider. The company has grown its earnings moderately as previously discussed. Still, the high ROE could have been even more beneficial to investors had the company been reinvesting more of its profits. As highlighted earlier, the current reinvestment rate appears to be quite low. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.