Continental Holdings Corporation's (TPE:3703) Stock Is Going Strong: Have Financials A Role To Play?

Continental Holdings (TPE:3703) has had a great run on the share market with its stock up by a significant 33% over the last three months. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. In this article, we decided to focus on Continental Holdings' 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.

See our latest analysis for Continental Holdings

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 Continental Holdings is:

4.0% = NT$1.1b ÷ NT$27b (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each NT$1 of shareholders' capital it has, the company made NT$0.04 in profit.

What Has ROE Got To Do With 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. 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.

Continental Holdings' Earnings Growth And 4.0% ROE

On the face of it, Continental Holdings' ROE is not much to talk about. A quick further study shows that the company's ROE doesn't compare favorably to the industry average of 9.4% either. In spite of this, Continental Holdings was able to grow its net income considerably, at a rate of 21% in the last five years. Therefore, there could be other reasons behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Continental Holdings' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 19% in the same period.

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is Continental Holdings fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Continental Holdings Using Its Retained Earnings Effectively?

Continental Holdings' three-year median payout ratio is a pretty moderate 42%, meaning the company retains 58% of its income. So it seems that Continental Holdings is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Moreover, Continental Holdings is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.

Conclusion

Overall, we feel that Continental Holdings certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 2 risks we have identified for Continental Holdings.

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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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