HPP Holdings Berhad's (KLSE:HPPHB) Stock's Been Going Strong: Could Weak Financials Mean The Market Will Correct Its Share Price?

HPP Holdings Berhad's (KLSE:HPPHB) stock is up by a considerable 54% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Particularly, we will be paying attention to HPP Holdings Berhad's ROE today.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for HPP Holdings Berhad

How To Calculate Return On Equity?

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 HPP Holdings Berhad is:

7.5% = RM9.3m ÷ RM123m (Based on the trailing twelve months to May 2023).

The 'return' is the yearly profit. So, this means that for every MYR1 of its shareholder's investments, the company generates a profit of MYR0.08.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

A Side By Side comparison of HPP Holdings Berhad's Earnings Growth And 7.5% ROE

At first glance, HPP Holdings Berhad's ROE doesn't look very promising. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 11%. Therefore, it might not be wrong to say that the five year net income decline of 7.4% seen by HPP Holdings Berhad was probably the result of it having a lower ROE. However, there could also be other factors causing the earnings to decline. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.

So, as a next step, we compared HPP Holdings Berhad'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 15% over the last few years.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). 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 HPPHB? You can find out in our latest intrinsic value infographic research report.

Is HPP Holdings Berhad Efficiently Re-investing Its Profits?

HPP Holdings Berhad's declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 60% (or a retention ratio of 40%). With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. To know the 2 risks we have identified for HPP Holdings Berhad visit our risks dashboard for free.

Only recently, HPP Holdings Berhad stated paying a dividend. This likely means that the management might have concluded that its shareholders have a strong preference for dividends. Based on the latest analysts' estimates, we found that the company's future payout ratio over the next three years is expected to hold steady at 49%. Regardless, the future ROE for HPP Holdings Berhad is predicted to rise to 13% despite there being not much change expected in its payout ratio.

Conclusion

Overall, we would be extremely cautious before making any decision on HPP Holdings Berhad. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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.