Are Abu Dhabi National Takaful Company PSC's (ADX:TKFL) Mixed Financials Driving The Negative Sentiment?

It is hard to get excited after looking at Abu Dhabi National Takaful Company PSC's (ADX:TKFL) recent performance, when its stock has declined 27% over the past three months. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Stock prices are usually driven by a company’s financial performance over the long term, and therefore we decided to pay more attention to the company's financial performance. Particularly, we will be paying attention to Abu Dhabi National Takaful Company PSC's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Abu Dhabi National Takaful Company PSC

How Do You Calculate Return On Equity?

The formula for ROE is:

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

So, based on the above formula, the ROE for Abu Dhabi National Takaful Company PSC is:

4.2% = د.إ19m ÷ د.إ446m (Based on the trailing twelve months to September 2023).

The 'return' is the profit over the last twelve months. So, this means that for every AED1 of its shareholder's investments, the company generates a profit of AED0.04.

What Has ROE Got To Do With 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. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

Abu Dhabi National Takaful Company PSC's Earnings Growth And 4.2% ROE

It is quite clear that Abu Dhabi National Takaful Company PSC's ROE is rather low. Even compared to the average industry ROE of 8.0%, the company's ROE is quite dismal. Given the circumstances, the significant decline in net income by 14% seen by Abu Dhabi National Takaful Company PSC over the last five years is not surprising. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

So, as a next step, we compared Abu Dhabi National Takaful Company PSC'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 12% over the last few years.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. 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 Abu Dhabi National Takaful Company PSC is trading on a high P/E or a low P/E, relative to its industry.

Is Abu Dhabi National Takaful Company PSC Making Efficient Use Of Its Profits?

Despite having a normal three-year median payout ratio of 28% (where it is retaining 72% of its profits), Abu Dhabi National Takaful Company PSC has seen a decline in earnings as we saw above. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Moreover, Abu Dhabi National Takaful Company PSC 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

On the whole, we feel that the performance shown by Abu Dhabi National Takaful Company PSC 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. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 3 risks we have identified for Abu Dhabi National Takaful Company PSC by visiting our risks dashboard for free on our platform here.

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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.