Are Strong Financial Prospects The Force That Is Driving The Momentum In Topchoice Medical Co., Inc.'s SHSE:600763) Stock?

Most readers would already be aware that Topchoice Medical's (SHSE:600763) stock increased significantly by 29% over the past three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. In this article, we decided to focus on Topchoice Medical's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Topchoice Medical

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 Topchoice Medical is:

14% = CN¥587m ÷ CN¥4.3b (Based on the trailing twelve months to June 2024).

The 'return' is the yearly profit. So, this means that for every CN¥1 of its shareholder's investments, the company generates a profit of CN¥0.14.

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. 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. 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.

Topchoice Medical's Earnings Growth And 14% ROE

At first glance, Topchoice Medical seems to have a decent ROE. On comparing with the average industry ROE of 6.5% the company's ROE looks pretty remarkable. Despite this, Topchoice Medical's five year net income growth was quite low averaging at only 4.1%. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or poor allocation of capital.

As a next step, we compared Topchoice Medical's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 4.3% in the same period.

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. Doing so will help them establish if the stock's future looks promising or ominous. What is 600763 worth today? The intrinsic value infographic in our free research report helps visualize whether 600763 is currently mispriced by the market.

Is Topchoice Medical Making Efficient Use Of Its Profits?

Despite having a moderate three-year median payout ratio of 28% (implying that the company retains the remaining 72% of its income), Topchoice Medical's earnings growth was quite low. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Moreover, Topchoice Medical has been paying dividends for seven years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 7.5% over the next three years. Despite the lower expected payout ratio, the company's ROE is not expected to change by much.

Summary

Overall, we are quite pleased with Topchoice Medical's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. As a result, the decent growth in its earnings is not surprising. 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 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.