Cathay Financial Holding Co., Ltd.'s (TWSE:2882) Stock Has Shown A Decent Performance: Have Financials A Role To Play?

Most readers would already know that Cathay Financial Holding's (TWSE:2882) stock increased by 3.1% over the past month. As most would know, long-term fundamentals have a strong correlation with market price movements, 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. Specifically, we decided to study Cathay Financial Holding'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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

View our latest analysis for Cathay Financial Holding

How Do You 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 Cathay Financial Holding is:

10.0% = NT$93b ÷ NT$939b (Based on the trailing twelve months to September 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$0.10.

What Is The Relationship Between ROE And 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. 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.

A Side By Side comparison of Cathay Financial Holding's Earnings Growth And 10.0% ROE

To start with, Cathay Financial Holding's ROE looks acceptable. Even when compared to the industry average of 12% the company's ROE looks quite decent. As you might expect, the 4.5% net income decline reported by Cathay Financial Holding is a bit of a surprise. Based on this, we feel that there might be other reasons which haven't been discussed so far in this article that could be hampering the company's growth. These include low earnings retention or poor allocation of capital.

However, when we compared Cathay Financial Holding's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 9.5% 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. 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 Cathay Financial Holding fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Cathay Financial Holding Making Efficient Use Of Its Profits?

In spite of a normal three-year median payout ratio of 37% (that is, a retention ratio of 63%), the fact that Cathay Financial Holding's earnings have shrunk is quite puzzling. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

Moreover, Cathay Financial Holding has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 43%. Accordingly, forecasts suggest that Cathay Financial Holding's future ROE will be 10% which is again, similar to the current ROE.

Conclusion

On the whole, we do feel that Cathay Financial Holding has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting ma huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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. 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.