Are Green Cross Corporation's (KRX:006280) Mixed Financials Driving The Negative Sentiment?

It is hard to get excited after looking at Green Cross' (KRX:006280) recent performance, when its stock has declined 26% over the past month. 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 Green Cross' 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Green Cross

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 Green Cross is:

3.6% = ₩44b ÷ ₩1.2t (Based on the trailing twelve months to September 2020).

The 'return' is the yearly profit. That means that for every ₩1 worth of shareholders' equity, the company generated ₩0.04 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. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Green Cross' Earnings Growth And 3.6% ROE

It is quite clear that Green Cross' ROE is rather low. Even compared to the average industry ROE of 6.1%, the company's ROE is quite dismal. Given the circumstances, the significant decline in net income by 38% seen by Green Cross over the last five years is not surprising. We reckon that there could also be other factors at play here. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

That being said, we compared Green Cross' performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 13% in the same period.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is A006280 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Green Cross Making Efficient Use Of Its Profits?

Looking at its LTM (or last twelve month) payout ratio of 29% (or a retention ratio of 71%) which is pretty normal, Green Cross' declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Moreover, Green Cross 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's future payout ratio is expected to drop to 8.6% over the next three years. The fact that the company's ROE is expected to rise to 10% over the same period is explained by the drop in the payout ratio.

Conclusion

In total, we're a bit ambivalent about Green Cross' performance. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. 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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