Most readers would already be aware that Federal International Holdings Berhad's (KLSE:FIHB) stock increased significantly by 54% 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 Federal International Holdings Berhad's ROE today.
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.
How To Calculate Return On Equity?
Return on equity 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 Federal International Holdings Berhad is:
3.1% = RM3.4m ÷ RM110m (Based on the trailing twelve months to December 2020).
The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every MYR1 worth of equity, the company was able to earn MYR0.03 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.
Federal International Holdings Berhad's Earnings Growth And 3.1% ROE
It is hard to argue that Federal International Holdings Berhad's ROE is much good in and of itself. Even when compared to the industry average of 11%, the ROE figure is pretty disappointing. For this reason, Federal International Holdings Berhad's five year net income decline of 9.5% is not surprising given its lower ROE. However, there could also be other factors causing the earnings to decline. Such as - low earnings retention or poor allocation of capital.
Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate 0.5% in the same period, we found that Federal International Holdings Berhad's performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Federal International Holdings Berhad is trading on a high P/E or a low P/E, relative to its industry.
Is Federal International Holdings Berhad Making Efficient Use Of Its Profits?
While the company did payout a portion of its dividend in the past, it currently doesn't pay a dividend. This implies that potentially all of its profits are being reinvested in the business.
On the whole, we feel that the performance shown by Federal International Holdings Berhad 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. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. To know the 4 risks we have identified for Federal International Holdings 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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