Is ArcSoft Corporation Limited's (SHSE:688088) Recent Performance Underpinned By Weak Financials?

It is hard to get excited after looking at ArcSoft's (SHSE:688088) recent performance, when its stock has declined 25% over the past three months. Given that stock prices are usually driven by a company’s fundamentals over the long term, which in this case look pretty weak, we decided to study the company's key financial indicators. Specifically, we decided to study ArcSoft'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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for ArcSoft

How To 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 ArcSoft is:

3.5% = CN¥96m ÷ CN¥2.7b (Based on the trailing twelve months to March 2024).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.04 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. 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.

ArcSoft's Earnings Growth And 3.5% ROE

It is hard to argue that ArcSoft's ROE is much good in and of itself. Further, we noted that the company's ROE is similar to the industry average of 4.2%. Given the circumstances, the significant decline in net income by 23% seen by ArcSoft over the last five years is not surprising.

As a next step, we compared ArcSoft's performance with the industry and found thatArcSoft's performance is depressing even when compared with the industry, which has shrunk its earnings at a rate of 3.6% in the same period, which is a slower than the company.

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). This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about ArcSoft's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is ArcSoft Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 73% (implying that 27% of the profits are retained), most of ArcSoft's profits are being paid to shareholders, which explains the company's shrinking earnings. With only very little left to reinvest into the business, growth in earnings is far from likely.

Moreover, ArcSoft has been paying dividends for four years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 106% over the next three years. Regardless, the future ROE for ArcSoft is speculated to rise to 6.6% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.

Summary

In total, we would have a hard think before deciding on any investment action concerning ArcSoft. As a result of its low ROE and lack of much reinvestment into the business, the company has seen a disappointing earnings growth rate. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com