King's Flair International (Holdings) Limited's (HKG:6822) Stock Is Going Strong: Have Financials A Role To Play?

King's Flair International (Holdings)'s (HKG:6822) stock is up by a considerable 19% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Particularly, we will be paying attention to King's Flair International (Holdings)'s ROE today.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for King's Flair International (Holdings)

How Do You Calculate Return On Equity?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for King's Flair International (Holdings) is:

20% = HK$120m ÷ HK$605m (Based on the trailing twelve months to June 2020).

The 'return' refers to a company's earnings over the last year. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.20 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

King's Flair International (Holdings)'s Earnings Growth And 20% ROE

To begin with, King's Flair International (Holdings) seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 14%. As you might expect, the 5.5% net income decline reported by King's Flair International (Holdings) is a bit of a surprise. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. These include low earnings retention or poor allocation of capital.

That being said, we compared King's Flair International (Holdings)'s performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 12% in the same period.

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. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about King's Flair International (Holdings)'s's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is King's Flair International (Holdings) Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 64% (implying that 36% of the profits are retained), most of King's Flair International (Holdings)'s profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. To know the 2 risks we have identified for King's Flair International (Holdings) visit our risks dashboard for free.

Moreover, King's Flair International (Holdings) has been paying dividends for five 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.

Summary

In total, it does look like King's Flair International (Holdings) has some positive aspects to its business. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE. Bear in mind, the company reinvests a small portion of its profits, which means that investors aren't reaping the benefits of the high rate of return. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. So it may be worth checking this free detailed graph of King's Flair International (Holdings)'s past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

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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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