China Mengniu Dairy Company Limited’s (HKG:2319) Stock Has Been Sliding But Fundamentals Look Strong: Is The Market Wrong?

It is hard to get excited after looking at China Mengniu Dairy’s (HKG:2319) recent performance, when its stock has declined 11% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on China Mengniu Dairy’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 simpler terms, it measures the profitability of a company in relation to shareholder’s equity.

Check out the opportunities and risks within the HK Food industry.

How Do You 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 Mengniu Dairy is:

13% = CN¥5.6b ÷ CN¥44b (Based on the trailing twelve months to June 2022).

The ‘return’ is the profit over the last twelve months. So, this means that for every HK$1 of its shareholder’s investments, the company generates a profit of HK$0.13.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficacy a company is generating its profits. 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 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 Mengniu Dairy’s Earnings Growth And 13% ROE

To begin with, China Mengniu Dairy seems to have a respectable ROE. On comparing with the average industry ROE of 9.0% the company’s ROE looks pretty remarkable. This certainly adds some context to China Mengniu Dairy’s exceptional 26% net income growth seen over the past five years. We believe that there might also be other aspects that are positively influencing the company’s earnings growth. For example, it is possible that the company’s management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared China Mengniu Dairy’s net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 7.3%.

SEHK:2319 Past Earnings Growth November 14th 2022

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. This then helps them determine if the stock is placed for a bright or bleak future. What is 2319 worth today? The intrinsic value infographic in our free research report helps visualize whether 2319 is currently mispriced by the market.

Is China Mengniu Dairy Making Efficient Use Of Its Profits?

China Mengniu Dairy has a really low three-year median payout ratio of 21%, meaning that it has the remaining 79% left over to reinvest into its business. So it looks like China Mengniu Dairy is reinvesting profits heavily to grow its business, which shows in its earnings growth.

Additionally, China Mengniu Dairy has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Our latest analyst data shows that the future payout ratio of the company is expected to rise to 30% over the next three years. Despite the higher expected payout ratio, the company’s ROE is not expected to change by much.

Conclusion

Overall, we are quite pleased with China Mengniu Dairy’s performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive growth. That being so, a study of the latest analyst forecasts show that the company is expected to see a slowdown in its future earnings growth. To know more about the company’s future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

Valuation is complex, but we’re helping make it simple.

Find out whether China Mengniu Dairy is potentially over or undervalued by checking out our comprehensive analysis, which includes Fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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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.

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