Should Weakness in JNK Heaters Co., Ltd.'s (KOSDAQ:126880) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

JNK Heaters (KOSDAQ:126880) has had a rough month with its share price down 15%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Specifically, we decided to study JNK Heaters' 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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for JNK Heaters

How Is ROE Calculated?

Return on equity 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 JNK Heaters is:

15% = ₩17b ÷ ₩108b (Based on the trailing twelve months to September 2020).

The 'return' refers to a company's earnings over the last year. So, this means that for every ₩1 of its shareholder's investments, the company generates a profit of ₩0.15.

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. 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.

JNK Heaters' Earnings Growth And 15% ROE

To begin with, JNK Heaters seems to have a respectable ROE. Especially when compared to the industry average of 4.8% the company's ROE looks pretty impressive. Despite this, JNK Heaters' five year net income growth was quite low averaging at only 2.1%. That's a bit unexpected from a company which has such a high rate of return. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or poor allocation of capital.

We then compared JNK Heaters' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 11% 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. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. 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 JNK Heaters is trading on a high P/E or a low P/E, relative to its industry.

Is JNK Heaters Using Its Retained Earnings Effectively?

JNK Heaters doesn't pay any dividend, meaning that potentially all of its profits are being reinvested in the business. This doesn't explain the low earnings growth number that we discussed above. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Summary

In total, it does look like JNK Heaters has some positive aspects to its business. 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. 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. Our risks dashboard would have the 3 risks we have identified for JNK Heaters.

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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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