Feng Hsin Steel Co.,Ltd's (TPE:2015) Stock Is Going Strong: Have Financials A Role To Play?

Feng Hsin SteelLtd (TPE:2015) has had a great run on the share market with its stock up by a significant 20% over the last three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Specifically, we decided to study Feng Hsin SteelLtd's ROE in this article.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Feng Hsin SteelLtd

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 Feng Hsin SteelLtd is:

13% = NT$2.4b ÷ NT$19b (Based on the trailing twelve months to September 2020).

The 'return' is the yearly profit. So, this means that for every NT$1 of its shareholder's investments, the company generates a profit of NT$0.13.

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.

A Side By Side comparison of Feng Hsin SteelLtd's Earnings Growth And 13% ROE

To begin with, Feng Hsin SteelLtd seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 5.7%. Despite this, Feng Hsin SteelLtd's five year net income growth was quite low averaging at only 3.8%. This is generally not the case as when a company has a high rate of return it should usually also have a high earnings growth rate. A few likely reasons why this could happen is that the company could have a high payout ratio or the business has allocated capital poorly, for instance.

We then compared Feng Hsin SteelLtd's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 7.3% in the same period, which is a bit concerning.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Feng Hsin SteelLtd is trading on a high P/E or a low P/E, relative to its industry.

Is Feng Hsin SteelLtd Efficiently Re-investing Its Profits?

Feng Hsin SteelLtd has a three-year median payout ratio of 79% (implying that it keeps only 21% of its profits), meaning that it pays out most of its profits to shareholders as dividends, and as a result, the company has seen low earnings growth.

Moreover, Feng Hsin SteelLtd 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.

Summary

Overall, we feel that Feng Hsin SteelLtd certainly does have some positive factors to consider. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return. Investors could have benefitted from the high ROE, had the company been reinvesting more of its earnings. As discussed earlier, the company is retaining a small portion of its profits. Having said that, looking at the current analyst estimates, we found that the company's earnings are expected to gain momentum. 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. 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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