FDC International Hotels Corporation's (TPE:2748) Has Been On A Rise But Financial Prospects Look Weak: Is The Stock Overpriced?

FDC International Hotels (TPE:2748) has had a great run on the share market with its stock up by a significant 11% over the last month. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Specifically, we decided to study FDC International Hotels' ROE in this article.

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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for FDC International Hotels

How To Calculate Return On Equity?

ROE 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 FDC International Hotels is:

8.6% = NT$107m ÷ NT$1.2b (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. That means that for every NT$1 worth of shareholders' equity, the company generated NT$0.09 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. 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. 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.

FDC International Hotels' Earnings Growth And 8.6% ROE

On the face of it, FDC International Hotels' ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 7.5%. But FDC International Hotels saw a five year net income decline of 4.7% over the past five years. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

That being said, we compared FDC International Hotels' performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 2.1% in the same period.

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about FDC International Hotels''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is FDC International Hotels Making Efficient Use Of Its Profits?

FDC International Hotels has a high three-year median payout ratio of 79% (that is, it is retaining 21% 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. The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. You can see the 4 risks we have identified for FDC International Hotels by visiting our risks dashboard for free on our platform here.

In addition, FDC International Hotels has been paying dividends over a period of five years suggesting that keeping up dividend payments is preferred by the management even though earnings have been in decline.

Conclusion

Overall, we would be extremely cautious before making any decision on FDC International Hotels. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. So far, we've only made a quick discussion around the company's earnings growth. You can do your own research on FDC International Hotels and see how it has performed in the past by looking at this FREE detailed graph 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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