Does The Market Have A Low Tolerance For Kyoritsu Computer & Communication Co.,Ltd.'s (TYO:3670) Mixed Fundamentals?

With its stock down 13% over the past three months, it is easy to disregard Kyoritsu Computer & CommunicationLtd (TYO:3670). It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. Particularly, we will be paying attention to Kyoritsu Computer & CommunicationLtd's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Kyoritsu Computer & CommunicationLtd

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 Kyoritsu Computer & CommunicationLtd is:

6.9% = JP¥116m ÷ JP¥1.7b (Based on the trailing twelve months to August 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 ¥0.07.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

Kyoritsu Computer & CommunicationLtd's Earnings Growth And 6.9% ROE

On the face of it, Kyoritsu Computer & CommunicationLtd's ROE is not much to talk about. However, given that the company's ROE is similar to the average industry ROE of 5.8%, we may spare it some thought. But Kyoritsu Computer & CommunicationLtd saw a five year net income decline of 5.9% over the past five years. Remember, the company's ROE is a bit low to begin with. Hence, this goes some way in explaining the shrinking earnings.

So, as a next step, we compared Kyoritsu Computer & CommunicationLtd'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 8.3% 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. Is Kyoritsu Computer & CommunicationLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Kyoritsu Computer & CommunicationLtd Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 31% (or a retention ratio of 69%) which is pretty normal, Kyoritsu Computer & CommunicationLtd'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. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Kyoritsu Computer & CommunicationLtd has paid dividends over a period of four years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings.

Conclusion

On the whole, we feel that the performance shown by Kyoritsu Computer & CommunicationLtd can be open to many interpretations. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. To know the 4 risks we have identified for Kyoritsu Computer & CommunicationLtd visit our risks dashboard for free.

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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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