Most readers would already be aware that San Miguel Brewery Hong Kong's (HKG:236) stock increased significantly by 67% over the past three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Particularly, we will be paying attention to San Miguel Brewery Hong Kong's ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
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 San Miguel Brewery Hong Kong is:
3.3% = HK$17m ÷ HK$515m (Based on the trailing twelve months to June 2020).
The 'return' is the yearly profit. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.03 in profit.
What Is The Relationship Between ROE And Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.
San Miguel Brewery Hong Kong's Earnings Growth And 3.3% ROE
As you can see, San Miguel Brewery Hong Kong's ROE looks pretty weak. Even when compared to the industry average of 8.4%, the ROE figure is pretty disappointing. Given the circumstances, the significant decline in net income by 19% seen by San Miguel Brewery Hong Kong over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.
That being said, we compared San Miguel Brewery Hong Kong'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 3.6% in the same period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. 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 San Miguel Brewery Hong Kong is trading on a high P/E or a low P/E, relative to its industry.
Is San Miguel Brewery Hong Kong Making Efficient Use Of Its Profits?
San Miguel Brewery Hong Kong doesn't pay any dividend, meaning that the company is keeping all of its profits, which makes us wonder why it is retaining its earnings if it can't use them to grow its business. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.
On the whole, we feel that the performance shown by San Miguel Brewery Hong Kong can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 2 risks we have identified for San Miguel Brewery Hong Kong by visiting our risks dashboard for free on our platform here.
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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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