Alfresa Holdings Corporation's (TSE:2784) Stock is Soaring But Financials Seem Inconsistent: Will The Uptrend Continue?

Alfresa Holdings (TSE:2784) has had a great run on the share market with its stock up by a significant 10% over the last three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Specifically, we decided to study Alfresa Holdings' ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Alfresa Holdings

How Is ROE Calculated?

ROE 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 Alfresa Holdings is:

6.2% = JP¥30b ÷ JP¥481b (Based on the trailing twelve months to June 2024).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every ¥1 worth of equity, the company was able to earn ¥0.06 in profit.

What Is The Relationship Between ROE And 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.

Alfresa Holdings' Earnings Growth And 6.2% ROE

On the face of it, Alfresa Holdings' ROE is not much to talk about. 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 9.9%. Given the circumstances, the significant decline in net income by 6.5% seen by Alfresa Holdings over the last five years is not surprising. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.

However, when we compared Alfresa Holdings' growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 6.9% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Alfresa Holdings''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Alfresa Holdings Efficiently Re-investing Its Profits?

Despite having a normal three-year median payout ratio of 39% (where it is retaining 61% of its profits), Alfresa Holdings has seen a decline in earnings as we saw above. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

In addition, Alfresa Holdings has been paying dividends over a period of at least ten 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

On the whole, we feel that the performance shown by Alfresa Holdings can be open to many interpretations. 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. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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.