Nissen Inc.'s (TYO:6543) Has Performed Well But Fundamentals Look Varied: Is There A Clear Direction For The Stock?

Nissen's (TYO:6543) stock is up by 2.0% over the past week. Given that the stock prices usually follow long-term business performance, we wonder if the company's mixed financials could have any adverse effect on its current price price movement In this article, we decided to focus on Nissen's 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 Nissen

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 Nissen is:

7.2% = JP¥204m ÷ JP¥2.9b (Based on the trailing twelve months to August 2020).

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 ¥0.07.

Why Is ROE Important For 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. 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.

Nissen's Earnings Growth And 7.2% ROE

When you first look at it, Nissen's ROE doesn't look that attractive. However, its ROE is similar to the industry average of 7.3%, so we won't completely dismiss the company. Having said that, Nissen's five year net income decline rate was 15%. Remember, the company's ROE is a bit low to begin with. Therefore, the decline in earnings could also be the result of this.

So, as a next step, we compared Nissen's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 8.2% in the same period.

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

Is Nissen Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 35% (or a retention ratio of 65%) which is pretty normal, Nissen's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

In addition, Nissen has been paying dividends over a period of three years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

On the whole, we feel that the performance shown by Nissen 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. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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This article by Simply Wall St is general in nature. 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.
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