Is Weakness In AME Elite Consortium Berhad (KLSE:AME) Stock A Sign That The Market Could be Wrong Given Its Strong Financial Prospects?

AME Elite Consortium Berhad (KLSE:AME) has had a rough week with its share price down 4.0%. However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. In this article, we decided to focus on AME Elite Consortium Berhad's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for AME Elite Consortium Berhad

How Do You Calculate Return On Equity?

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 AME Elite Consortium Berhad is:

7.4% = RM51m ÷ RM691m (Based on the trailing twelve months to December 2020).

The 'return' is the yearly profit. That means that for every MYR1 worth of shareholders' equity, the company generated MYR0.07 in profit.

What Is The Relationship Between ROE And Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

A Side By Side comparison of AME Elite Consortium Berhad's Earnings Growth And 7.4% ROE

At first glance, AME Elite Consortium Berhad's ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 4.3% doesn't go unnoticed by us. However, AME Elite Consortium Berhad's five year net income growth was quite low averaging at only 3.4%. Bear in mind, the company does have a low ROE. It is just that the industry ROE is lower. Therefore, the low growth in earnings could also be the result of this.

Given that the industry shrunk its earnings at a rate of 7.7% in the same period, the net income growth of the company is quite impressive.

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. 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 AME Elite Consortium Berhad is trading on a high P/E or a low P/E, relative to its industry.

Is AME Elite Consortium Berhad Making Efficient Use Of Its Profits?

AME Elite Consortium Berhad's low three-year median payout ratio of 24% (or a retention ratio of 76%) should mean that the company is retaining most of its earnings to fuel its growth. However, the low earnings growth number doesn't reflect this as high growth usually follows high profit retention. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

In addition, AME Elite Consortium Berhad only recently started paying a dividend so the management must have decided the shareholders prefer dividends over earnings growth. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 23% of its profits over the next three years. Still, forecasts suggest that AME Elite Consortium Berhad's future ROE will rise to 10% even though the the company's payout ratio is not expected to change by much.

Summary

On the whole, we feel that AME Elite Consortium Berhad's performance has been quite good. Specifically, we like that it has been reinvesting a high portion of its profits at a moderate rate of return, resulting in earnings expansion. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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This article by Simply Wall St is general in nature. 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.
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