Chr. Hansen Holding A/S' (CPH:CHR) Stock Has Shown Weakness Lately But Financial Prospects Look Decent: Is The Market Wrong?

With its stock down 3.6% over the past three months, it is easy to disregard Chr. Hansen Holding (CPH:CHR). 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 Chr. Hansen Holding's ROE.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Chr. Hansen Holding

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 Chr. Hansen Holding is:

12% = €229m ÷ €1.8b (Based on the trailing twelve months to May 2023).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each DKK1 of shareholders' capital it has, the company made DKK0.12 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. 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 Chr. Hansen Holding's Earnings Growth And 12% ROE

To begin with, Chr. Hansen Holding seems to have a respectable ROE. Even when compared to the industry average of 14% the company's ROE looks quite decent. However, we are curious as to how Chr. Hansen Holding's decent returns still resulted in flat growth for Chr. Hansen Holding in the past five years. So, there could be some other aspects that could potentially be preventing the company from growing. These include low earnings retention or poor allocation of capital.

As a next step, we compared Chr. Hansen Holding's net income growth with the industry and discovered that the industry saw an average growth of 13% in the same period.

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

Is Chr. Hansen Holding Making Efficient Use Of Its Profits?

The high three-year median payout ratio of 55% (meaning, the company retains only 45% of profits) for Chr. Hansen Holding suggests that the company's earnings growth was miniscule as a result of paying out a majority of its earnings.

Moreover, Chr. Hansen Holding 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 48%. Accordingly, forecasts suggest that Chr. Hansen Holding's future ROE will be 14% which is again, similar to the current ROE.

Summary

In total, it does look like Chr. Hansen Holding has some positive aspects to its business. 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 current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.