Declining Stock and Decent Financials: Is The Market Wrong About Ganso Co., Ltd. (SHSE:603886)?

It is hard to get excited after looking at Ganso's (SHSE:603886) recent performance, when its stock has declined 14% over the past three months. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Ganso's ROE today.

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 Ganso

How Do You Calculate Return On Equity?

ROE 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 Ganso is:

18% = CN¥261m ÷ CN¥1.5b (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 CN¥1 worth of equity, the company was able to earn CN¥0.18 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

A Side By Side comparison of Ganso's Earnings Growth And 18% ROE

To start with, Ganso's ROE looks acceptable. Especially when compared to the industry average of 8.0% the company's ROE looks pretty impressive. However, we are curious as to how the high returns still resulted in flat growth for Ganso in the past five years. Therefore, there could be some other aspects that could potentially be preventing the company from growing. Such as, the company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

Next, on comparing with the industry net income growth, we found that Ganso's reported growth was lower than the industry growth of 1.6% over the last few years, which is not something we like 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. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Ganso's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Ganso Efficiently Re-investing Its Profits?

With a high three-year median payout ratio of 84% (implying that the company keeps only 16% of its income) of its business to reinvest into its business), most of Ganso's profits are being paid to shareholders, which explains the absence of growth in earnings.

Additionally, Ganso has paid dividends over a period of seven years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Conclusion

Overall, we feel that Ganso certainly does have some positive factors to consider. However, while the company does have a high ROE, its earnings growth number is quite disappointing. This can be blamed on the fact that it reinvests only a small portion of its profits and pays out the rest as dividends. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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.