Does Sunny Friend Environmental Technology Co., Ltd.'s (TWSE:8341) Weak Fundamentals Mean That The Market Could Correct Its Share Price?

Sunny Friend Environmental Technology's (TWSE:8341) stock is up by a considerable 17% over the past month. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimately dictates market outcomes. Particularly, we will be paying attention to Sunny Friend Environmental Technology's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Sunny Friend Environmental Technology

How Do You 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 Sunny Friend Environmental Technology is:

8.5% = NT$455m ÷ NT$5.3b (Based on the trailing twelve months to June 2024).

The 'return' is the profit over the last twelve months. So, this means that for every NT$1 of its shareholder's investments, the company generates a profit of NT$0.09.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Sunny Friend Environmental Technology's Earnings Growth And 8.5% ROE

When you first look at it, Sunny Friend Environmental Technology's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 8.7%, we may spare it some thought. But Sunny Friend Environmental Technology saw a five year net income decline of 15% over the past five years. Remember, the company's ROE is a bit low to begin with. Hence, this goes some way in explaining the shrinking earnings.

So, as a next step, we compared Sunny Friend Environmental Technology'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 20% over the last few years.

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. This then helps them determine if the stock is placed for a bright or bleak future. Is Sunny Friend Environmental Technology fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Sunny Friend Environmental Technology Efficiently Re-investing Its Profits?

Sunny Friend Environmental Technology has a high three-year median payout ratio of 97% (that is, it is retaining 2.9% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only very little left to reinvest into the business, growth in earnings is far from likely.

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

Summary

Overall, we would be extremely cautious before making any decision on Sunny Friend Environmental Technology. Specifically, it has shown quite an unsatisfactory performance as far as earnings growth is concerned, and a poor ROE and an equally poor rate of reinvestment seem to be the reason behind this inadequate performance. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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.