Chumpower Machinery Corporation's (GTSM:4575) Dismal Stock Performance Reflects Weak Fundamentals

With its stock down 18% over the past three months, it is easy to disregard Chumpower Machinery (GTSM:4575). Given that stock prices are usually driven by a company’s fundamentals over the long term, which in this case look pretty weak, we decided to study the company's key financial indicators. Specifically, we decided to study Chumpower Machinery's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for Chumpower Machinery

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 Chumpower Machinery is:

6.1% = NT$72m ÷ NT$1.2b (Based on the trailing twelve months to June 2020).

The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every NT$1 worth of equity, the company was able to earn NT$0.06 in profit.

Why Is ROE Important For 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.

A Side By Side comparison of Chumpower Machinery's Earnings Growth And 6.1% ROE

When you first look at it, Chumpower Machinery's ROE doesn't look that attractive. Next, when compared to the average industry ROE of 9.7%, the company's ROE leaves us feeling even less enthusiastic. Given the circumstances, the significant decline in net income by 35% seen by Chumpower Machinery over the last five years is not surprising. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.

However, when we compared Chumpower Machinery's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 1.2% 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. This then helps them determine if the stock is placed for a bright or bleak future. 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 Chumpower Machinery is trading on a high P/E or a low P/E, relative to its industry.

Is Chumpower Machinery Making Efficient Use Of Its Profits?

Chumpower Machinery'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 54% (or a retention ratio of 46%). With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. You can see the 6 risks we have identified for Chumpower Machinery by visiting our risks dashboard for free on our platform here.

Only recently, Chumpower Machinery stated paying a dividend. This likely means that the management might have concluded that its shareholders have a strong preference for dividends.

Summary

On the whole, Chumpower Machinery's performance is quite a big let-down. 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. So far, we've only made a quick discussion around the company's earnings growth. To gain further insights into Chumpower Machinery's past profit growth, check out this visualization of past earnings, revenue and cash flows.

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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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