Can Mixed Fundamentals Have A Negative Impact on Korea Petrochemical Ind. Co., Ltd. (KRX:006650) Current Share Price Momentum?

Korea Petrochemical Ind (KRX:006650) has had a great run on the share market with its stock up by a significant 43% over the last three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. Specifically, we decided to study Korea Petrochemical Ind'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Korea Petrochemical Ind

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 Korea Petrochemical Ind is:

4.8% = ₩89b ÷ ₩1.8t (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. That means that for every ₩1 worth of shareholders' equity, the company generated ₩0.05 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Korea Petrochemical Ind's Earnings Growth And 4.8% ROE

As you can see, Korea Petrochemical Ind's ROE looks pretty weak. Even compared to the average industry ROE of 8.0%, the company's ROE is quite dismal. For this reason, Korea Petrochemical Ind's five year net income decline of 15% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

So, as a next step, we compared Korea Petrochemical Ind'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 7.6% in the same period.

Earnings growth is a huge factor in stock valuation. 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. What is A006650 worth today? The intrinsic value infographic in our free research report helps visualize whether A006650 is currently mispriced by the market.

Is Korea Petrochemical Ind Making Efficient Use Of Its Profits?

Korea Petrochemical Ind's low three-year median payout ratio of 18% (or a retention ratio of 82%) over the last three years should mean that the company is retaining most of its earnings to fuel its growth but the company's earnings have actually shrunk. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. 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, Korea Petrochemical Ind 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. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 11% over the next three years. Accordingly, the expected drop in the payout ratio explains the expected increase in the company's ROE to 9.4%, over the same period.

Conclusion

Overall, we have mixed feelings about Korea Petrochemical Ind. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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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