AS Harju Elekter's (TAL:HAE1T) stock is up by a considerable 46% over the past three months. We, however wanted to have a closer look at its key financial indicators as the markets usually pay for long-term fundamentals, and in this case, they don't look very promising. Particularly, we will be paying attention to AS Harju Elekter'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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
How Is ROE Calculated?
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 AS Harju Elekter is:
7.5% = €5.5m ÷ €73m (Based on the trailing twelve months to December 2020).
The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each €1 of shareholders' capital it has, the company made €0.08 in profit.
What Is The Relationship Between ROE And 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 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.
A Side By Side comparison of AS Harju Elekter's Earnings Growth And 7.5% ROE
On the face of it, AS Harju Elekter's ROE is not much to talk about. We then compared the company's ROE to the broader industry and were disappointed to see that the ROE is lower than the industry average of 9.4%. Therefore, it might not be wrong to say that the five year net income decline of 22% seen by AS Harju Elekter was probably the result of it having a lower ROE. We reckon that there could also be other factors at play here. For example, it is possible that the business has allocated capital poorly or that the company has a very high payout ratio.
So, as a next step, we compared AS Harju Elekter'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 6.5% in the same period.
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. Doing so will help them establish if the stock's future looks promising or ominous. Is AS Harju Elekter fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is AS Harju Elekter Using Its Retained Earnings Effectively?
AS Harju Elekter's very high three-year median payout ratio of 108% over the last three years suggests that the company is paying its shareholders more than what it is earning and this explains the company's shrinking earnings. Its usually very hard to sustain dividend payments that are higher than reported profits. Our risks dashboard should have the 2 risks we have identified for AS Harju Elekter.
Additionally, AS Harju Elekter has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth.
Overall, we would be extremely cautious before making any decision on AS Harju Elekter. Specifically, it has shown quite an unsatisfactory performance as far as earnings growth is concerned, and a poor ROE and an equally poor rate of reinvestment seem to be the reason behind this inadequate performance. So far, we've only made a quick discussion around the company's earnings growth. You can do your own research on AS Harju Elekter and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.
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