China Container Terminal Corporation's (TPE:2613) Stock's Been Going Strong: Could Weak Financials Mean The Market Will Coorect Its Share Price?

China Container Terminal (TPE:2613) has had a great run on the share market with its stock up by a significant 24% over the last three months. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimatley dictates market outcomes. In this article, we decided to focus on China Container Terminal's ROE.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

Check out our latest analysis for China Container Terminal

How To Calculate Return On Equity?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for China Container Terminal is:

0.9% = NT$27m ÷ NT$3.0b (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each NT$1 of shareholders' capital it has, the company made NT$0.01 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 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.

China Container Terminal's Earnings Growth And 0.9% ROE

It is quite clear that China Container Terminal's ROE is rather low. Not just that, even compared to the industry average of 5.8%, the company's ROE is entirely unremarkable. For this reason, China Container Terminal's five year net income decline of 2.8% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

So, as a next step, we compared China Container Terminal'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 2.8% 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 China Container Terminal fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is China Container Terminal Using Its Retained Earnings Effectively?

China Container Terminal's declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 63% (or a retention ratio of 37%). With only very little left to reinvest into the business, growth in earnings is far from likely. To know the 5 risks we have identified for China Container Terminal visit our risks dashboard for free.

Moreover, China Container Terminal has been paying dividends for seven years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking.

Summary

In total, we would have a hard think before deciding on any investment action concerning China Container Terminal. 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. Up till now, we've only made a short study of the company's growth data. You can do your own research on China Container Terminal and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.

When trading China Container Terminal or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.