Declining Stock and Decent Financials: Is The Market Wrong About Smart-Core Holdings Limited (HKG:2166)?

With its stock down 16% over the past month, it is easy to disregard Smart-Core Holdings (HKG:2166). But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Specifically, we decided to study Smart-Core Holdings' ROE in this article.

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.

See our latest analysis for Smart-Core Holdings

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 Smart-Core Holdings is:

8.7% = HK$101m ÷ HK$1.2b (Based on the trailing twelve months to June 2023).

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.

Why Is ROE Important For Earnings Growth?

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

A Side By Side comparison of Smart-Core Holdings' Earnings Growth And 8.7% ROE

On the face of it, Smart-Core Holdings' ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 8.1%. Particularly, the exceptional 21% net income growth seen by Smart-Core Holdings over the past five years is pretty remarkable. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. Such as - high earnings retention or an efficient management in place.

We then compared Smart-Core Holdings' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 8.4% in the same 5-year period.

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). This then helps them determine if the stock is placed for a bright or bleak future. 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 Smart-Core Holdings is trading on a high P/E or a low P/E, relative to its industry.

Is Smart-Core Holdings Making Efficient Use Of Its Profits?

While the company did pay out a portion of its dividend in the past, it currently doesn't pay a dividend. This is likely what's driving the high earnings growth number discussed above.

Conclusion

Overall, we feel that Smart-Core Holdings certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. 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 2 risks we have identified for Smart-Core 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. 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.