Should Weakness in ES Ceramics Technology Berhad's (KLSE:ESCERAM) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

ES Ceramics Technology Berhad (KLSE:ESCERAM) has had a rough three months with its share price down 36%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. In this article, we decided to focus on ES Ceramics Technology Berhad's ROE.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for ES Ceramics Technology Berhad

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 ES Ceramics Technology Berhad is:

11% = RM7.5m ÷ RM68m (Based on the trailing twelve months to November 2020).

The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every MYR1 worth of equity, the company was able to earn MYR0.11 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

ES Ceramics Technology Berhad's Earnings Growth And 11% ROE

At first glance, ES Ceramics Technology Berhad's ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 7.3% doesn't go unnoticed by us. But then again, seeing that ES Ceramics Technology Berhad's net income shrunk at a rate of 25% in the past five years, makes us think again. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. Hence, this goes some way in explaining the shrinking earnings.

Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate 17% in the same period, we found that ES Ceramics Technology Berhad's performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about ES Ceramics Technology Berhad's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is ES Ceramics Technology Berhad Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 47% (or a retention ratio of 53%) which is pretty normal, ES Ceramics Technology Berhad's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Additionally, ES Ceramics Technology Berhad has paid dividends over a period of four years, which means that the company's management is rather focused on keeping up its dividend payments, regardless of the shrinking earnings.

Conclusion

Overall, we feel that ES Ceramics Technology Berhad certainly does have some positive factors to consider. However, while the company does have a decent ROE and a high profit retention, its earnings growth number is quite disappointing. This suggests that there might be some external threat to the business, that's hampering growth. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. To know the 4 risks we have identified for ES Ceramics Technology Berhad visit our risks dashboard for free.

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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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