CCID Consulting Company Limited's (HKG:2176) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

CCID Consulting (HKG:2176) has had a great run on the share market with its stock up by a significant 21% over the last three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on CCID Consulting's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for CCID Consulting

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 CCID Consulting is:

39% = CN¥69m ÷ CN¥176m (Based on the trailing twelve months to June 2023).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every HK$1 worth of equity, the company was able to earn HK$0.39 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

CCID Consulting's Earnings Growth And 39% ROE

First thing first, we like that CCID Consulting has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 8.5% also doesn't go unnoticed by us. However, for some reason, the higher returns aren't reflected in CCID Consulting's meagre five year net income growth average of 4.6%. That's a bit unexpected from a company which has such a high rate of return. A few likely reasons why this could happen is that the company could have a high payout ratio or the business has allocated capital poorly, for instance.

Next, on comparing with the industry net income growth, we found that CCID Consulting's reported growth was lower than the industry growth of 9.8% over the last few years, which is not something we like to see.

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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 CCID Consulting is trading on a high P/E or a low P/E, relative to its industry.

Is CCID Consulting Using Its Retained Earnings Effectively?

With a high three-year median payout ratio of 57% (or a retention ratio of 43%), most of CCID Consulting's profits are being paid to shareholders. This definitely contributes to the low earnings growth seen by the company.

In addition, CCID Consulting has been paying dividends over a period of eight years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Summary

In total, it does look like CCID Consulting has some positive aspects to its business. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return. Investors could have benefitted from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining a small portion of its profits. 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. Our risks dashboard would have the 2 risks we have identified for CCID Consulting.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.