Ko Yo Chemical (Group) Limited (HKG:827) Has A ROE Of 9.0%

By
Simply Wall St
Published
January 08, 2022
SEHK:827
Source: Shutterstock

While some investors are already well versed in financial metrics (hat tip), this article is for those who would like to learn about Return On Equity (ROE) and why it is important. We'll use ROE to examine Ko Yo Chemical (Group) Limited (HKG:827), by way of a worked example.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Ko Yo Chemical (Group)

How To 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 Ko Yo Chemical (Group) is:

9.0% = CN¥16m ÷ CN¥173m (Based on the trailing twelve months to June 2021).

The 'return' refers to a company's earnings over the last year. So, this means that for every HK$1 of its shareholder's investments, the company generates a profit of HK$0.09.

Does Ko Yo Chemical (Group) Have A Good ROE?

Arguably the easiest way to assess company's ROE is to compare it with the average in its industry. Importantly, this is far from a perfect measure, because companies differ significantly within the same industry classification. If you look at the image below, you can see Ko Yo Chemical (Group) has a similar ROE to the average in the Chemicals industry classification (10%).

roe
SEHK:827 Return on Equity January 8th 2022

So while the ROE is not exceptional, at least its acceptable. Although the ROE is similar to the industry, we should still perform further checks to see if the company's ROE is being boosted by high debt levels. If so, this increases its exposure to financial risk. You can see the 4 risks we have identified for Ko Yo Chemical (Group) by visiting our risks dashboard for free on our platform here.

How Does Debt Impact ROE?

Companies usually need to invest money to grow their profits. That cash can come from retained earnings, issuing new shares (equity), or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the use of debt will improve the returns, but will not change the equity. That will make the ROE look better than if no debt was used.

Combining Ko Yo Chemical (Group)'s Debt And Its 9.0% Return On Equity

It seems that Ko Yo Chemical (Group) uses a huge volume of debt to fund the business, since it has an extremely high debt to equity ratio of 12.46. Most investors would need a low share price to be interested in a company with low ROE and high debt to equity.

Summary

Return on equity is useful for comparing the quality of different businesses. Companies that can achieve high returns on equity without too much debt are generally of good quality. If two companies have around the same level of debt to equity, and one has a higher ROE, I'd generally prefer the one with higher ROE.

But ROE is just one piece of a bigger puzzle, since high quality businesses often trade on high multiples of earnings. It is important to consider other factors, such as future profit growth -- and how much investment is required going forward. So I think it may be worth checking this free this detailed graph of past earnings, revenue and cash flow.

But note: Ko Yo Chemical (Group) may not be the best stock to buy. So take a peek at this free list of interesting companies with high ROE and low debt.

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