Three-A Resources Berhad's (KLSE:3A) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

With its stock down 6.4% over the past month, it is easy to disregard Three-A Resources Berhad (KLSE:3A). 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. Particularly, we will be paying attention to Three-A Resources Berhad's ROE today.

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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

See our latest analysis for Three-A Resources Berhad

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 Three-A Resources Berhad is:

8.5% = RM31m ÷ RM368m (Based on the trailing twelve months to September 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 MYR0.09 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

Three-A Resources Berhad's Earnings Growth And 8.5% ROE

At first glance, Three-A Resources Berhad's ROE doesn't look very promising. However, the fact that the company's ROE is higher than the average industry ROE of 6.9%, is definitely interesting. Still, Three-A Resources Berhad has seen a flat net income growth over the past five years. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. Therefore, the low to flat growth in earnings could also be the result of this.

Given that the industry shrunk its earnings at a rate of 6.0% 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. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Three-A Resources Berhad's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Three-A Resources Berhad Making Efficient Use Of Its Profits?

Despite having a normal three-year median payout ratio of 32% (implying that the company keeps 68% of its income) over the last three years, Three-A Resources Berhad has seen a negligible amount of growth in earnings as we saw above. So there could be some other explanation in that regard. For instance, the company's business may be deteriorating.

Additionally, Three-A Resources Berhad has paid dividends over a period of at least ten years, which means that the company's management is determined to pay dividends even if it means little to no earnings growth. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 37%. Accordingly, forecasts suggest that Three-A Resources Berhad's future ROE will be 8.2% which is again, similar to the current ROE.

Summary

In total, we are pretty happy with Three-A Resources Berhad's performance. Specifically, we like that it has been reinvesting a high portion of its profits at a moderate rate of return, resulting in earnings expansion. Up till now, we've only made a short study of the company's growth data. To gain further insights into Three-A Resources Berhad's past profit growth, check out this visualization of past earnings, revenue and cash flows.

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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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