Shinoken Group Co., Ltd.'s (TYO:8909) Stock On An Uptrend: Could Fundamentals Be Driving The Momentum?

Most readers would already be aware that Shinoken Group's (TYO:8909) stock increased significantly by 14% over the past month. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. Specifically, we decided to study Shinoken Group's ROE in this article.

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.

View our latest analysis for Shinoken Group

How To 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 Shinoken Group is:

13% = JP¥5.1b ÷ JP¥39b (Based on the trailing twelve months to September 2020).

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 ¥0.13 in profit.

Why Is ROE Important For 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. 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.

Shinoken Group's Earnings Growth And 13% ROE

To start with, Shinoken Group's ROE looks acceptable. Especially when compared to the industry average of 9.6% the company's ROE looks pretty impressive. However, for some reason, the higher returns aren't reflected in Shinoken Group's meagre five year net income growth average of 2.1%. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. Such a scenario is likely to take place when a company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

We then compared Shinoken Group's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 6.2% in the same period, which is a bit concerning.

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. This then helps them determine if the stock is placed for a bright or bleak future. Is Shinoken Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shinoken Group Efficiently Re-investing Its Profits?

Shinoken Group has a low three-year median payout ratio of 14% (meaning, the company keeps the remaining 86% of profits) which means that the company is retaining more of its earnings. This should be reflected in its earnings growth number, but that's not the case. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Additionally, Shinoken Group has paid dividends over a period of nine years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.

Summary

On the whole, we do feel that Shinoken Group has some positive attributes. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its 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 Shinoken Group 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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