Dongwon Systems Corporation's (KRX:014820) Stock Is Going Strong: Is the Market Following Fundamentals?

Dongwon Systems (KRX:014820) has had a great run on the share market with its stock up by a significant 77% over the last three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Particularly, we will be paying attention to Dongwon Systems' ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Dongwon Systems

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 Dongwon Systems is:

9.1% = ₩56b ÷ ₩614b (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. So, this means that for every ₩1 of its shareholder's investments, the company generates a profit of ₩0.09.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Dongwon Systems' Earnings Growth And 9.1% ROE

At first glance, Dongwon Systems' ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 6.4% doesn't go unnoticed by us. Having said that, Dongwon Systems' net income growth over the past five years is more or less flat. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. Hence, this goes some way in explaining the flat earnings growth.

Next, on comparing with the industry net income growth, we found that Dongwon Systems' growth figure is a bit better than the industry which has been shrinking at a rate of 0.7% in the same period.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Dongwon Systems''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Dongwon Systems Using Its Retained Earnings Effectively?

In spite of a normal three-year median payout ratio of 34% (or a retention ratio of 66%), Dongwon Systems hasn't seen much growth in its earnings. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Dongwon Systems started paying a dividend only recently. So it looks like the management must have perceived that shareholders favor dividends over earnings growth. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to drop to 20% over the next three years. The fact that the company's ROE is expected to rise to 12% over the same period is explained by the drop in the payout ratio.

Conclusion

On the whole, we feel that Dongwon Systems' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business at a moderate rate of return. Unsurprisingly, this has led to an impressive earnings growth. Up till now, we've only made a short study of the company's growth data. So it may be worth checking this free detailed graph of Dongwon Systems' past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

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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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