Build King Holdings Limited's (HKG:240) Stock Is Going Strong: Is the Market Following Fundamentals?

Build King Holdings (HKG:240) has had a great run on the share market with its stock up by a significant 9.4% over the last month. 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 Build King Holdings' ROE.

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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Build King Holdings

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 Build King Holdings is:

26% = HK$347m ÷ HK$1.3b (Based on the trailing twelve months to June 2020).

The 'return' refers to a company's earnings over the last year. So, this means that for every HK$1 of its shareholder's investments, the company generates a profit of HK$0.26.

What Has ROE Got To Do With 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

A Side By Side comparison of Build King Holdings' Earnings Growth And 26% ROE

To begin with, Build King Holdings has a pretty high ROE which is interesting. Additionally, the company's ROE is higher compared to the industry average of 10% which is quite remarkable. So, the substantial 29% net income growth seen by Build King Holdings over the past five years isn't overly surprising.

Next, on comparing with the industry net income growth, we found that the growth figure reported by Build King Holdings compares quite favourably to the industry average, which shows a decline of 2.1% 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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Build King Holdings is trading on a high P/E or a low P/E, relative to its industry.

Is Build King Holdings Efficiently Re-investing Its Profits?

Build King Holdings has a really low three-year median payout ratio of 17%, meaning that it has the remaining 83% left over to reinvest into its business. So it looks like Build King Holdings is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, Build King Holdings has paid dividends over a period of seven years which means that the company is pretty serious about sharing its profits with shareholders.

Conclusion

On the whole, we feel that Build King Holdings' performance has been quite good. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Not to forget, share price outcomes are also dependent on the potential risks a company may face. So it is important for investors to be aware of the risks involved in the business. Our risks dashboard will have the 1 risk we have identified for Build King Holdings.

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This article by Simply Wall St is general in nature. 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.
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