Should Weakness in Century21 Real Estate of Japan Ltd's (TYO:8898) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

Century21 Real Estate of Japan (TYO:8898) has had a rough three months with its share price down 7.3%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. In this article, we decided to focus on Century21 Real Estate of Japan'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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Century21 Real Estate of Japan

How Do You Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Century21 Real Estate of Japan is:

8.4% = JP¥503m ÷ JP¥6.0b (Based on the trailing twelve months to September 2020).

The 'return' is the yearly profit. So, this means that for every ¥1 of its shareholder's investments, the company generates a profit of ¥0.08.

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. 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Century21 Real Estate of Japan's Earnings Growth And 8.4% ROE

At first glance, Century21 Real Estate of Japan seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 8.7%. For this reason, Century21 Real Estate of Japan's five year net income decline of 6.8% raises the question as to why the decent ROE didn't translate into growth. We reckon that there could be some other factors at play here that are preventing 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.

That being said, we compared Century21 Real Estate of Japan's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 7.4% in the same 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). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Century21 Real Estate of Japan fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Century21 Real Estate of Japan Using Its Retained Earnings Effectively?

Century21 Real Estate of Japan doesn't pay any dividend, meaning that potentially all of its profits are being reinvested in the business, which doesn't explain why the company's earnings have shrunk if it is retaining all 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.

Summary

Overall, we feel that Century21 Real Estate of Japan certainly does have some positive factors to consider. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. 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 Century21 Real Estate of Japan 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. 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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