Dongwu Cement International Limited (HKG:695) Stock Has Shown Weakness Lately But Financials Look Strong: Should Prospective Shareholders Make The Leap?

It is hard to get excited after looking at Dongwu Cement International's (HKG:695) recent performance, when its stock has declined 2.3% over the past week. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Dongwu Cement International's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Dongwu Cement International

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 Dongwu Cement International is:

10% = CN¥55m ÷ CN¥530m (Based on the trailing twelve months to June 2020).

The 'return' is the amount earned after tax 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$0.10 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 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.

A Side By Side comparison of Dongwu Cement International's Earnings Growth And 10% ROE

To start with, Dongwu Cement International's ROE looks acceptable. Even so, when compared with the average industry ROE of 15%, we aren't very excited. However, we are pleased to see the impressive 58% net income growth reported by Dongwu Cement International over the past five years. Therefore, there could be other causes behind this growth. Such as - high earnings retention or an efficient management in place. Bear in mind, the company does have a respectable ROE. It is just that the industry ROE is higher. So this also does lend some color to the high earnings growth seen by the company.

As a next step, we compared Dongwu Cement International's 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 44%.

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. Is Dongwu Cement International fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Dongwu Cement International Making Efficient Use Of Its Profits?

The three-year median payout ratio for Dongwu Cement International is 48%, which is moderately low. The company is retaining the remaining 52%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Dongwu Cement International is reinvesting its earnings efficiently.

Along with seeing a growth in earnings, Dongwu Cement International only recently started paying dividends. Its quite possible that the company was looking to impress its shareholders.

Conclusion

On the whole, we feel that Dongwu Cement International's performance has been quite good. Specifically, we like that it has been reinvesting a high portion of its profits at a moderate rate of return, resulting in earnings expansion. 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. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company. Our risks dashboard would have the 2 risks we have identified for Dongwu Cement International.

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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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