Are Sern Kou Resources Berhad's (KLSE:SERNKOU) Fundamentals Good Enough to Warrant Buying Given The Stock's Recent Weakness?

Sern Kou Resources Berhad (KLSE:SERNKOU) has had a rough three months with its share price down 11%. However, the company's fundamentals look pretty decent, and long-term financials are usually aligned with future market price movements. Particularly, we will be paying attention to Sern Kou Resources Berhad'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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.

See our latest analysis for Sern Kou Resources Berhad

How Do You 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 Sern Kou Resources Berhad is:

10% = RM18m ÷ RM170m (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each MYR1 of shareholders' capital it has, the company made MYR0.10 in profit.

Why Is ROE Important For 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 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.

Sern Kou Resources Berhad's Earnings Growth And 10% ROE

At first glance, Sern Kou Resources Berhad's ROE doesn't look very promising. However, given that the company's ROE is similar to the average industry ROE of 11%, we may spare it some thought. Moreover, we are quite pleased to see that Sern Kou Resources Berhad's net income grew significantly at a rate of 46% over the last five years. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. Such as - high earnings retention or an efficient management in place.

When you consider the fact that the industry earnings have shrunk at a rate of 3.8% in the same period, the company's net income growth is pretty remarkable.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). 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 Sern Kou Resources Berhad is trading on a high P/E or a low P/E, relative to its industry.

Is Sern Kou Resources Berhad Making Efficient Use Of Its Profits?

Sern Kou Resources Berhad doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.

Summary

Overall, we feel that Sern Kou Resources Berhad certainly does have some positive factors to consider. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings 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 1 risk we have identified for Sern Kou Resources 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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