KT&G Corporation's (KRX:033780) Stock Financial Prospects Look Bleak: Should Shareholders Be Prepared For A Share Price Correction?

KT&G's (KRX:033780) stock is up by 2.6% over the past month. However, its weak financial performance indicators makes us a bit doubtful if that trend could continue. In this article, we decided to focus on KT&G's ROE.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for KT&G

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 KT&G is:

11% = ₩984b ÷ ₩8.8t (Based on the trailing twelve months to September 2020).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each ₩1 of shareholders' capital it has, the company made ₩0.11 in profit.

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.

KT&G's Earnings Growth And 11% ROE

At first glance, KT&G's ROE doesn't look very promising. However, its ROE is similar to the industry average of 12%, so we won't completely dismiss the company. Having said that, KT&G's net income growth over the past five years is more or less flat. Remember, the company's ROE is not particularly great to begin with. Hence, this provides some context to the flat earnings growth seen by the company.

We then compared KT&G's net income growth with the industry and found that the average industry growth rate was 9.1% in the same period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. Has the market priced in the future outlook for A033780? You can find out in our latest intrinsic value infographic research report.

Is KT&G Efficiently Re-investing Its Profits?

The high three-year median payout ratio of 54% (meaning, the company retains only 46% of profits) for KT&G suggests that the company's earnings growth was miniscule as a result of paying out a majority of its earnings.

Additionally, KT&G has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 54% of its profits over the next three years. Accordingly, forecasts suggest that KT&G's future ROE will be 12% which is again, similar to the current ROE.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning KT&G. As a result of its low ROE and lack of mich reinvestment into the business, the company has seen a disappointing earnings growth rate. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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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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