Pico Far East Holdings Limited's (HKG:752) Financial Prospects Don't Look Very Positive: Could It Mean A Stock Price Drop In The Future?

Pico Far East Holdings' (HKG:752) stock is up by 8.8% over the past three months. Given that the markets usually pay for the long-term financial health of a company, we wonder if the current momentum in the share price will keep up, given that the company's financials don't look very promising. Specifically, we decided to study Pico Far East Holdings' ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Pico Far East 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 Pico Far East Holdings is:

2.7% = HK$56m ÷ HK$2.1b (Based on the trailing twelve months to October 2020).

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$0.03.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Pico Far East Holdings' Earnings Growth And 2.7% ROE

It is quite clear that Pico Far East Holdings' ROE is rather low. Not just that, even compared to the industry average of 6.2%, the company's ROE is entirely unremarkable. Therefore, it might not be wrong to say that the five year net income decline of 13% seen by Pico Far East Holdings was possibly a result of it having a lower ROE. We reckon that there could also be other factors at play here. Such as - low earnings retention or poor allocation of capital.

Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate 11% in the same period, we found that Pico Far East Holdings' performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.

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 Pico Far East Holdings is trading on a high P/E or a low P/E, relative to its industry.

Is Pico Far East Holdings Making Efficient Use Of Its Profits?

Pico Far East Holdings' declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 61% (or a retention ratio of 39%). With only very little left to reinvest into the business, growth in earnings is far from likely. Our risks dashboard should have the 3 risks we have identified for Pico Far East Holdings.

Moreover, Pico Far East Holdings has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Conclusion

Overall, we would be extremely cautious before making any decision on Pico Far East Holdings. As a result of its low ROE and lack of mich reinvestment into the business, the company has seen a disappointing earnings growth rate. So far, we've only made a quick discussion around the company's earnings growth. To gain further insights into Pico Far East Holdings' past profit growth, check out this visualization of past earnings, revenue and cash flows.

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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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