GSH Corporation Limited's (SGX:BDX) Stock's Been Going Strong: Could Weak Financials Mean The Market Will Coorect Its Share Price?

Most readers would already be aware that GSH's (SGX:BDX) stock increased significantly by 6.7% over the past month. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. Particularly, we will be paying attention to GSH's ROE today.

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for GSH

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 GSH is:

1.3% = S$6.4m ÷ S$493m (Based on the trailing twelve months to June 2020).

The 'return' is the income the business earned over the last year. So, this means that for every SGD1 of its shareholder's investments, the company generates a profit of SGD0.01.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

GSH's Earnings Growth And 1.3% ROE

It is quite clear that GSH's ROE is rather low. Not just that, even compared to the industry average of 4.3%, the company's ROE is entirely unremarkable. Therefore, the disappointing ROE therefore provides a background to GSH's very little net income growth of 3.5% over the past five years.

Next, on comparing with the industry net income growth, we found that GSH's reported growth was lower than the industry growth of 11% in the same period, which is not something we like to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if GSH is trading on a high P/E or a low P/E, relative to its industry.

Is GSH Efficiently Re-investing Its Profits?

GSH has a three-year median payout ratio of 66% (implying that it keeps only 34% of its profits), meaning that it pays out most of its profits to shareholders as dividends, and as a result, the company has seen low earnings growth.

In addition, GSH has been paying dividends over a period of six years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Conclusion

Overall, we would be extremely cautious before making any decision on GSH. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. In brief, we think the company is risky and investors should think twice before making any final judgement on this company. You can see the 2 risks we have identified for GSH by visiting our risks dashboard for free on our platform here.

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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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