Yahoo Finance Why Launch Tech Company Limited’s (HKG:2488) ROE Of 5.54% Does Not Tell The Whole Story
This article is intended for those of you who are at the beginning of your investing journey and looking to gauge the potential return on investment in Launch Tech Company Limited (HKG:2488).
Launch Tech Company Limited (HKG:2488) generated a below-average return on equity of 5.54% in the past 12 months, while its industry returned 13.46%. An investor may attribute an inferior ROE to a relatively inefficient performance, and whilst this can often be the case, knowing the nuts and bolts of the ROE calculation may change that perspective and give you a deeper insight into 2488’s past performance. Metrics such as financial leverage can impact the level of ROE which in turn can affect the sustainability of 2488’s returns. Let me show you what I mean by this. See our latest analysis for Launch Tech
Peeling the layers of ROE – trisecting a company’s profitability
Return on Equity (ROE) is a measure of Launch Tech’s profit relative to its shareholders’ equity. An ROE of 5.54% implies HK$0.055 returned on every HK$1 invested. While a higher ROE is preferred in most cases, there are several other factors we should consider before drawing any conclusions.
Return on Equity = Net Profit ÷ Shareholders Equity
Returns are usually compared to costs to measure the efficiency of capital. Launch Tech’s cost of equity is 9.48%. Given a discrepancy of -3.94% between return and cost, this indicated that Launch Tech may be paying more for its capital than what it’s generating in return. ROE can be dissected into three distinct ratios: net profit margin, asset turnover, and financial leverage. This is called the Dupont Formula:
Dupont Formula
ROE = profit margin × asset turnover × financial leverage
ROE = (annual net profit ÷ sales) × (sales ÷ assets) × (assets ÷ shareholders’ equity)
ROE = annual net profit ÷ shareholders’ equity
Essentially, profit margin shows how much money the company makes after paying for all its expenses. Asset turnover reveals how much revenue can be generated from Launch Tech’s asset base. The most interesting ratio, and reflective of sustainability of its ROE, is financial leverage. Since ROE can be inflated by excessive debt, we need to examine Launch Tech’s debt-to-equity level. Currently the debt-to-equity ratio stands at a low 26.63%, which means Launch Tech still has headroom to take on more leverage in order to increase profits.
Next Steps:
ROE is one of many ratios which meaningfully dissects financial statements, which illustrates the quality of a company. Launch Tech’s below-industry ROE is disappointing, furthermore, its returns were not even high enough to cover its own cost of equity. Although, its appropriate level of leverage means investors can be more confident in the sustainability of Launch Tech’s return with a possible increase should the company decide to increase its debt levels. ROE is a helpful signal, but it is definitely not sufficient on its own to make an investment decision.
For Launch Tech, there are three fundamental aspects you should further research:
Financial Health: Does it have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
Valuation: What is Launch Tech worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether Launch Tech is currently mispriced by the market.
Other High-Growth Alternatives : Are there other high-growth stocks you could be holding instead of Launch Tech? Explore our interactive list of stocks with large growth potential to get an idea of what else is out there you may be missing!
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.
