Shikun & Binui Ltd. (TLV:SKBN) Delivered A Weaker ROE Than Its Industry

By
Simply Wall St
Published
April 21, 2022
TASE:SKBN
Source: Shutterstock

While some investors are already well versed in financial metrics (hat tip), this article is for those who would like to learn about Return On Equity (ROE) and why it is important. By way of learning-by-doing, we'll look at ROE to gain a better understanding of Shikun & Binui Ltd. (TLV:SKBN).

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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for Shikun & Binui

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Shikun & Binui is:

3.1% = ₪105m ÷ ₪3.3b (Based on the trailing twelve months to December 2021).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every ₪1 of its shareholder's investments, the company generates a profit of ₪0.03.

Does Shikun & Binui Have A Good ROE?

One simple way to determine if a company has a good return on equity is to compare it to the average for its industry. The limitation of this approach is that some companies are quite different from others, even within the same industry classification. As is clear from the image below, Shikun & Binui has a lower ROE than the average (22%) in the Construction industry.

roe
TASE:SKBN Return on Equity April 21st 2022

That certainly isn't ideal. That being said, a low ROE is not always a bad thing, especially if the company has low leverage as this still leaves room for improvement if the company were to take on more debt. A company with high debt levels and low ROE is a combination we like to avoid given the risk involved. Our risks dashboard should have the 4 risks we have identified for Shikun & Binui.

How Does Debt Impact ROE?

Most companies need money -- from somewhere -- to grow their profits. The cash for investment can come from prior year profits (retained earnings), issuing new shares, or borrowing. In the case of the first and second options, the ROE will reflect this use of cash, for growth. In the latter case, the debt required for growth will boost returns, but will not impact the shareholders' equity. In this manner the use of debt will boost ROE, even though the core economics of the business stay the same.

Combining Shikun & Binui's Debt And Its 3.1% Return On Equity

It appears that Shikun & Binui makes extensive use of debt to improve its returns, because it has an alarmingly high debt to equity ratio of 3.28. We consider it to be a negative sign when a company has a rather low ROE despite a rather high debt to equity.

Summary

Return on equity is useful for comparing the quality of different businesses. Companies that can achieve high returns on equity without too much debt are generally of good quality. All else being equal, a higher ROE is better.

But when a business is high quality, the market often bids it up to a price that reflects this. It is important to consider other factors, such as future profit growth -- and how much investment is required going forward. So I think it may be worth checking this free this detailed graph of past earnings, revenue and cash flow.

Of course Shikun & Binui may not be the best stock to buy. So you may wish to see this free collection of other companies that have high ROE and low debt.

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