Sunonwealth Electric Machine Industry Co., Ltd. (TPE:2421) Stock Has Shown Weakness Lately But Financials Look Strong: Should Prospective Shareholders Make The Leap?

It is hard to get excited after looking at Sunonwealth Electric Machine Industry's (TPE:2421) recent performance, when its stock has declined 13% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Sunonwealth Electric Machine Industry's ROE.

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.

View our latest analysis for Sunonwealth Electric Machine Industry

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 Sunonwealth Electric Machine Industry is:

21% = NT$917m ÷ NT$4.4b (Based on the trailing twelve months to September 2020).

The 'return' refers to a company's earnings over the last year. That means that for every NT$1 worth of shareholders' equity, the company generated NT$0.21 in profit.

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. 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. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Sunonwealth Electric Machine Industry's Earnings Growth And 21% ROE

To begin with, Sunonwealth Electric Machine Industry seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 9.8%. This probably laid the ground for Sunonwealth Electric Machine Industry's moderate 11% net income growth seen over the past five years.

We then compared Sunonwealth Electric Machine Industry's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 1.2% in the same period.

Earnings growth is a huge factor in stock valuation. 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. Is 2421 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Sunonwealth Electric Machine Industry Using Its Retained Earnings Effectively?

Sunonwealth Electric Machine Industry has a significant three-year median payout ratio of 83%, meaning that it is left with only 17% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.

Additionally, Sunonwealth Electric Machine Industry has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Existing analyst estimates suggest that the company's future payout ratio is expected to drop to 66% over the next three years. The fact that the company's ROE is expected to rise to 26% over the same period is explained by the drop in the payout ratio.

Summary

In total, we are pretty happy with Sunonwealth Electric Machine Industry's performance. In particular, its high ROE is quite noteworthy and also the probable explanation behind its considerable earnings growth. Yet, the company is retaining a small portion of its profits. Which means that the company has been able to grow its earnings in spite of it, so that's not too bad. That being so, the latest analyst forecasts show that the company will continue to see an expansion in its earnings. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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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