Are Hang Chi Holdings Limited's (HKG:8405) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

With its stock down 14% over the past three months, it is easy to disregard Hang Chi Holdings (HKG:8405). However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Hang Chi Holdings' ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Hang Chi Holdings

How Is ROE Calculated?

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 Hang Chi Holdings is:

13% = HK$26m ÷ HK$197m (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.13 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. 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 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.

Hang Chi Holdings' Earnings Growth And 13% ROE

To begin with, Hang Chi Holdings seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 8.7%. Despite this, Hang Chi Holdings' five year net income growth was quite low averaging at only 3.4%. This is interesting as the high returns should mean that the company has the ability to generate high growth but for some reason, it hasn't been able to do so. A few likely reasons why this could happen is that the company could have a high payout ratio or the business has allocated capital poorly, for instance.

As a next step, we compared Hang Chi Holdings' net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 6.9% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. If you're wondering about Hang Chi Holdings''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Hang Chi Holdings Making Efficient Use Of Its Profits?

The high three-year median payout ratio of 73% (that is, the company retains only 27% of its income) over the past three years for Hang Chi Holdings suggests that the company's earnings growth was lower as a result of paying out a majority of its earnings.

Additionally, Hang Chi Holdings has paid dividends over a period of six years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Summary

Overall, we feel that Hang Chi Holdings certainly does have some positive factors to consider. 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. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 4 risks we have identified for Hang Chi Holdings.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com