Stock Analysis

Exco Technologies Limited (TSE:XTC) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

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TSX:XTC
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Exco Technologies' (TSE:XTC) stock is up by a considerable 20% over the past three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Particularly, we will be paying attention to Exco Technologies' ROE today.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for Exco Technologies

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 Exco Technologies is:

8.3% = CA$27m ÷ CA$331m (Based on the trailing twelve months to September 2020).

The 'return' is the amount earned after tax over the last twelve months. That means that for every CA$1 worth of shareholders' equity, the company generated CA$0.08 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently 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.

Exco Technologies' Earnings Growth And 8.3% ROE

On the face of it, Exco Technologies' ROE is not much to talk about. However, its ROE is similar to the industry average of 10%, so we won't completely dismiss the company. Having said that, Exco Technologies' five year net income decline rate was 11%. Bear in mind, the company does have a slightly low ROE. Therefore, the decline in earnings could also be the result of this.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 7.9% in the same period, we still found Exco Technologies' performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

past-earnings-growth
TSX:XTC Past Earnings Growth January 20th 2021

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. 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 Exco Technologies is trading on a high P/E or a low P/E, relative to its industry.

Is Exco Technologies Making Efficient Use Of Its Profits?

Despite having a normal three-year median payout ratio of 41% (where it is retaining 59% of its profits), Exco Technologies has seen a decline in earnings as we saw above. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.

In addition, Exco Technologies has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.

Conclusion

On the whole, we feel that the performance shown by Exco Technologies can be open to many interpretations. While the company does have a high rate of reinvestment, the low ROE means that all that reinvestment is not reaping any benefit to its investors, and moreover, its having a negative impact on the earnings growth. That being so, the latest industry analyst forecasts show that the analysts are expecting to see a huge improvement in the company's earnings growth rate. 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.

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