Is Ncsoft Corporation's (KRX:036570) Recent Price Movement Underpinned By Its Weak Fundamentals?

Ncsoft (KRX:036570) has had a rough month with its share price down 11%. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. 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. In this article, we decided to focus on Ncsoft's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for Ncsoft

How Is ROE Calculated?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Ncsoft is:

6.6% = ₩214b ÷ ₩3.3t (Based on the trailing twelve months to December 2023).

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 ₩0.07 in profit.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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 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.

Ncsoft's Earnings Growth And 6.6% ROE

At first glance, Ncsoft's ROE doesn't look very promising. Yet, a closer study shows that the company's ROE is similar to the industry average of 7.0%. But then again, Ncsoft's five year net income shrunk at a rate of 5.2%. Remember, the company's ROE is a bit low to begin with. Therefore, the decline in earnings could also be the result of this.

So, as a next step, we compared Ncsoft'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 21% over the last few years.

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. 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 A036570? You can find out in our latest intrinsic value infographic research report.

Is Ncsoft Using Its Retained Earnings Effectively?

In spite of a normal three-year median payout ratio of 31% (that is, a retention ratio of 69%), the fact that Ncsoft's earnings have shrunk is quite puzzling. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Moreover, Ncsoft has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 31% of its profits over the next three years. However, Ncsoft's ROE is predicted to rise to 8.2% despite there being no anticipated change in its payout ratio.

Conclusion

Overall, we have mixed feelings about Ncsoft. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.