Does The Market Have A Low Tolerance For Autohome Inc.'s (NYSE:ATHM) Mixed Fundamentals?

It is hard to get excited after looking at Autohome's (NYSE:ATHM) recent performance, when its stock has declined 8.7% over the past month. It is possible that the markets have ignored the company's differing financials and decided to lean-in to the negative sentiment. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. In this article, we decided to focus on Autohome'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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Autohome

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 Autohome is:

7.9% = CN¥2.0b ÷ CN¥26b (Based on the trailing twelve months to June 2023).

The 'return' is the income the business earned over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.08 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. 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.

Autohome's Earnings Growth And 7.9% ROE

When you first look at it, Autohome's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 7.9%, we may spare it some thought. But then again, Autohome's five year net income shrunk at a rate of 9.7%. Remember, the company's ROE is a bit low to begin with. So that's what might be causing earnings growth to shrink.

However, when we compared Autohome's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 5.3% in the same period. This is quite worrisome.

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. Doing so will help them establish if the stock's future looks promising or ominous. What is ATHM worth today? The intrinsic value infographic in our free research report helps visualize whether ATHM is currently mispriced by the market.

Is Autohome Efficiently Re-investing Its Profits?

When we piece together Autohome's low three-year median payout ratio of 22% (where it is retaining 78% of its profits), calculated for the last three-year period, we are puzzled by the lack of growth. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Autohome has paid dividends over a period of four years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 24%. Accordingly, forecasts suggest that Autohome's future ROE will be 7.2% which is again, similar to the current ROE.

Summary

On the whole, we feel that the performance shown by Autohome can be open to many interpretations. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. 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.