MEGAIN Holding (Cayman) Co., Ltd.'s (HKG:6939) Stock Is Rallying But Financials Look Ambiguous: Will The Momentum Continue?

By
Simply Wall St
Published
March 19, 2022
SEHK:6939
Source: Shutterstock

MEGAIN Holding (Cayman)'s (HKG:6939) stock is up by a considerable 17% over the past week. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. In this article, we decided to focus on MEGAIN Holding (Cayman)'s ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for MEGAIN Holding (Cayman)

How Is ROE Calculated?

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 MEGAIN Holding (Cayman) is:

7.1% = CN¥22m ÷ CN¥305m (Based on the trailing twelve months to June 2021).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each HK$1 of shareholders' capital it has, the company made HK$0.07 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

MEGAIN Holding (Cayman)'s Earnings Growth And 7.1% ROE

When you first look at it, MEGAIN Holding (Cayman)'s ROE doesn't look that attractive. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 10%. Therefore, it might not be wrong to say that the five year net income decline of 32% seen by MEGAIN Holding (Cayman) was probably the 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.

That being said, we compared MEGAIN Holding (Cayman)'s 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 22% in the same period.

past-earnings-growth
SEHK:6939 Past Earnings Growth March 19th 2022

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. If you're wondering about MEGAIN Holding (Cayman)'s's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is MEGAIN Holding (Cayman) Making Efficient Use Of Its Profits?

When we piece together MEGAIN Holding (Cayman)'s low three-year median payout ratio of 17% (where it is retaining 83% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there might be other factors at play here which could potentially be hampering growth. For instance, the business has faced some headwinds.

In addition, MEGAIN Holding (Cayman) only recently started paying a dividend so the management probably decided the shareholders prefer dividends even though earnings have been shrinking.

Summary

Overall, we have mixed feelings about MEGAIN Holding (Cayman). While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. To know the 2 risks we have identified for MEGAIN Holding (Cayman) visit our risks dashboard for free.

Discounted cash flow calculation for every stock

Simply Wall St does a detailed discounted cash flow calculation every 6 hours for every stock on the market, so if you want to find the intrinsic value of any company just search here. It’s FREE.

Make Confident Investment Decisions

Simply Wall St's Editorial Team provides unbiased, factual reporting on global stocks using in-depth fundamental analysis.
Find out more about our editorial guidelines and team.