Has Yuhan Corporation's (KRX:000100) Impressive Stock Performance Got Anything to Do With Its Fundamentals?

Most readers would already be aware that Yuhan's (KRX:000100) stock increased significantly by 8.9% over the past month. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. Specifically, we decided to study Yuhan's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Yuhan

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 Yuhan is:

9.2% = ₩165b ÷ ₩1.8t (Based on the trailing twelve months to June 2020).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every ₩1 worth of equity, the company was able to earn ₩0.09 in profit.

What Is The Relationship Between ROE And 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.

Yuhan's Earnings Growth And 9.2% ROE

When you first look at it, Yuhan's ROE doesn't look that attractive. Although a closer study shows that the company's ROE is higher than the industry average of 7.1% which we definitely can't overlook. However, Yuhan's five year net income decline rate was 12%. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. So that could be one of the factors that are causing earnings growth to shrink.

However, when we compared Yuhan's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 13% in the same period. This is quite worrisome.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Yuhan's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Yuhan Making Efficient Use Of Its Profits?

In spite of a normal three-year median payout ratio of 46% (that is, a retention ratio of 54%), the fact that Yuhan'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.

In addition, Yuhan has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business 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. However, Yuhan's future ROE is expected to decline to 6.2% despite the expected decline in its payout ratio. We infer that there could be other factors that could be steering the foreseen decline in the company's ROE.

Summary

Overall, we feel that Yuhan certainly does have some positive factors to consider. Yet, the low earnings growth is a bit concerning, especially given that the company has a respectable rate of return and is reinvesting a huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. Additionally, the latest industry analyst forecasts show that analysts expect the company's earnings to continue to shrink in the future. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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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