Model Solution Co., Ltd. (KOSDAQ:417970) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

Model Solution's (KOSDAQ:417970) stock is up by a considerable 15% over the past week. 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. Particularly, we will be paying attention to Model Solution's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

This technology could replace computers: discover the 20 stocks are working to make quantum computing a reality.

How To Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Model Solution is:

7.9% = ₩5.3b ÷ ₩67b (Based on the trailing twelve months to December 2024).

The 'return' is the yearly profit. So, this means that for every ₩1 of its shareholder's investments, the company generates a profit of ₩0.08.

See our latest analysis for Model Solution

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. 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.

Model Solution's Earnings Growth And 7.9% ROE

On the face of it, Model Solution's ROE is not much to talk about. However, given that the company's ROE is similar to the average industry ROE of 7.3%, we may spare it some thought. But Model Solution saw a five year net income decline of 19% over the past five years. Bear in mind, the company does have a slightly low ROE. So that's what might be causing earnings growth to shrink.

That being said, we compared Model Solution's 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 15% in the same 5-year 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. If you're wondering about Model Solution's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Model Solution Efficiently Re-investing Its Profits?

In spite of a normal three-year median payout ratio of 26% (that is, a retention ratio of 74%), the fact that Model Solution's earnings have shrunk is quite puzzling. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

In addition, Model Solution only recently started paying a dividend so the management probably decided the shareholders prefer dividends even though earnings have been shrinking.

Summary

On the whole, we feel that the performance shown by Model Solution can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 2 risks we have identified for Model Solution by visiting our risks dashboard for free on our platform here.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.