Harmonic Drive Systems Inc. (TSE:6324) Is Going Strong But Fundamentals Appear To Be Mixed : Is There A Clear Direction For The Stock?

Most readers would already be aware that Harmonic Drive Systems' (TSE:6324) stock increased significantly by 15% over the past three months. 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 Harmonic Drive Systems' ROE.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Harmonic Drive Systems

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Harmonic Drive Systems is:

1.8% = JP¥1.9b ÷ JP¥106b (Based on the trailing twelve months to December 2023).

The 'return' is the profit over the last twelve months. So, this means that for every ¥1 of its shareholder's investments, the company generates a profit of ¥0.02.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Harmonic Drive Systems' Earnings Growth And 1.8% ROE

It is quite clear that Harmonic Drive Systems' ROE is rather low. Even compared to the average industry ROE of 7.4%, the company's ROE is quite dismal. Therefore, Harmonic Drive Systems' flat earnings over the past five years can possibly be explained by the low ROE amongst other factors.

As a next step, we compared Harmonic Drive Systems' net income growth with the industry and discovered that the industry saw an average growth of 6.6% in the same period.

Earnings growth is a huge factor in stock valuation. 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. Has the market priced in the future outlook for 6324? You can find out in our latest intrinsic value infographic research report.

Is Harmonic Drive Systems Using Its Retained Earnings Effectively?

Despite having a moderate three-year median payout ratio of 37% (meaning the company retains63% of profits) in the last three-year period, Harmonic Drive Systems' earnings growth was more or les flat. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Harmonic Drive Systems has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Summary

Overall, we have mixed feelings about Harmonic Drive Systems. 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. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.