Are Jiu Zun Digital Interactive Entertainment Group Holdings Limited's (HKG:1961) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

Jiu Zun Digital Interactive Entertainment Group Holdings (HKG:1961) has had a rough month with its share price down 18%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Jiu Zun Digital Interactive Entertainment Group Holdings' ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

See our latest analysis for Jiu Zun Digital Interactive Entertainment Group Holdings

How Do You Calculate Return On Equity?

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 Jiu Zun Digital Interactive Entertainment Group Holdings is:

12% = CN¥29m ÷ CN¥241m (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$0.12 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Jiu Zun Digital Interactive Entertainment Group Holdings' Earnings Growth And 12% ROE

To begin with, Jiu Zun Digital Interactive Entertainment Group Holdings seems to have a respectable ROE. Further, the company's ROE is similar to the industry average of 13%. As you might expect, the 9.4% net income decline reported by Jiu Zun Digital Interactive Entertainment Group Holdings is a bit of a surprise. So, there might be some other aspects that could explain this. These include low earnings retention or poor allocation of capital.

That being said, we compared Jiu Zun Digital Interactive Entertainment Group Holdings' 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 32% 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. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Jiu Zun Digital Interactive Entertainment Group Holdings''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Jiu Zun Digital Interactive Entertainment Group Holdings Using Its Retained Earnings Effectively?

Despite having a normal three-year median payout ratio of 29% (where it is retaining 71% of its profits), Jiu Zun Digital Interactive Entertainment Group Holdings has seen a decline in earnings as we saw above. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Jiu Zun Digital Interactive Entertainment Group Holdings only recently started paying a dividend so the management probably decided the shareholders prefer dividends even though earnings have been shrinking.

Conclusion

On the whole, we do feel that Jiu Zun Digital Interactive Entertainment Group Holdings has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. 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. You can see the 6 risks we have identified for Jiu Zun Digital Interactive Entertainment Group Holdings 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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