Is GungHo Online Entertainment, Inc.'s (TSE:3765) Recent Stock Performance Influenced By Its Fundamentals In Any Way?

GungHo Online Entertainment (TSE:3765) has had a great run on the share market with its stock up by a significant 15% over the last week. 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 GungHo Online Entertainment's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for GungHo Online Entertainment

How Do You Calculate Return On Equity?

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 GungHo Online Entertainment is:

15% = JP¥22b ÷ JP¥149b (Based on the trailing twelve months to December 2023).

The 'return' refers to a company's earnings over the last year. That means that for every ¥1 worth of shareholders' equity, the company generated ¥0.15 in profit.

What Is The Relationship Between ROE And 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.

GungHo Online Entertainment's Earnings Growth And 15% ROE

At first glance, GungHo Online Entertainment seems to have a decent ROE. On comparing with the average industry ROE of 8.7% the company's ROE looks pretty remarkable. However, we are curious as to how the high returns still resulted in flat growth for GungHo Online Entertainment in the past five years. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. For example, it could be that the company has 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 GungHo Online Entertainment's reported growth was lower than the industry growth of 15% 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. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. 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 GungHo Online Entertainment is trading on a high P/E or a low P/E, relative to its industry.

Is GungHo Online Entertainment Making Efficient Use Of Its Profits?

GungHo Online Entertainment's low three-year median payout ratio of 9.6% (implying that the company keeps90% of its income) should mean that the company is retaining most of its earnings to fuel its growth and this should be reflected in its growth number, but that's not the case.

Moreover, GungHo Online Entertainment has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Summary

Overall, we feel that GungHo Online Entertainment certainly does have some positive factors to consider. Although, we are disappointed to see a lack of growth in earnings even in spite of a high ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. 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. 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.