Are Strong Financial Prospects The Force That Is Driving The Momentum In Chervon Holdings Limited's HKG:2285) Stock?

Chervon Holdings (HKG:2285) has had a great run on the share market with its stock up by a significant 29% 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. Specifically, we decided to study Chervon Holdings' ROE in this article.

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 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 Chervon Holdings

How To Calculate Return On Equity?

Return on equity 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 Chervon Holdings is:

12% = US$125m ÷ US$1.0b (Based on the trailing twelve months to June 2023).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each HK$1 of shareholders' capital it has, the company made HK$0.12 in profit.

What Is The Relationship Between ROE And 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. 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.

Chervon Holdings' Earnings Growth And 12% ROE

At first glance, Chervon Holdings seems to have a decent ROE. On comparing with the average industry ROE of 9.5% the company's ROE looks pretty remarkable. Probably as a result of this, Chervon Holdings was able to see an impressive net income growth of 33% over the last five years. We believe that there might also be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.

As a next step, we compared Chervon Holdings' net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 3.5%.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Chervon Holdings''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Chervon Holdings Efficiently Re-investing Its Profits?

Chervon Holdings has a three-year median payout ratio of 26% (where it is retaining 74% of its income) which is not too low or not too high. So it seems that Chervon Holdings is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

While Chervon Holdings has seen growth in its earnings, it only recently started to pay a dividend. It is most likely that the company decided to impress new and existing shareholders with a dividend. Our latest analyst data shows that the future payout ratio of the company is expected to drop to 18% over the next three years. Regardless, the ROE is not expected to change much for the company despite the lower expected payout ratio.

Summary

On the whole, we feel that Chervon Holdings' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. 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.