Shanghai Hollywave Electronic System Co., Ltd. (SHSE:688682) Stock's Been Sliding But Fundamentals Look Decent: Will The Market Correct The Share Price In The Future?

With its stock down 11% over the past week, it is easy to disregard Shanghai Hollywave Electronic System (SHSE:688682). However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Shanghai Hollywave Electronic System'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 Shanghai Hollywave Electronic System

How Is ROE Calculated?

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 Shanghai Hollywave Electronic System is:

5.4% = CN¥37m ÷ CN¥687m (Based on the trailing twelve months to March 2024).

The 'return' is the profit 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¥0.05 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

A Side By Side comparison of Shanghai Hollywave Electronic System's Earnings Growth And 5.4% ROE

When you first look at it, Shanghai Hollywave Electronic System's ROE doesn't look that attractive. However, the fact that the its ROE is quite higher to the industry average of 4.1% doesn't go unnoticed by us. But then again, seeing that Shanghai Hollywave Electronic System's net income shrunk at a rate of 2.8% in the past five years, makes us think again. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. Therefore, the decline in earnings could also be the result of this.

Next, on comparing with the industry net income growth, we found that Shanghai Hollywave Electronic System's earnings seems to be shrinking at a similar rate as the industry which shrunk at a rate of a rate of 3.2% in the same period.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. Is Shanghai Hollywave Electronic System fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shanghai Hollywave Electronic System Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 34% (or a retention ratio of 66%) which is pretty normal, Shanghai Hollywave Electronic System's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Additionally, Shanghai Hollywave Electronic System started paying a dividend only recently. So it looks like the management may have perceived that shareholders favor dividends even though earnings have been in decline.

Conclusion

In total, it does look like Shanghai Hollywave Electronic System has some positive aspects to its business. Yet, the low earnings growth is a bit concerning, especially given that the company has a respectable rate of return and is reinvesting a huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 4 risks we have identified for Shanghai Hollywave Electronic System by visiting our risks dashboard for free on our platform here.

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

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.