Can Mixed Fundamentals Have A Negative Impact on Hwa Tai Industries Berhad (KLSE:HWATAI) Current Share Price Momentum?

Most readers would already be aware that Hwa Tai Industries Berhad's (KLSE:HWATAI) stock increased significantly by 11% 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. Specifically, we decided to study Hwa Tai Industries Berhad's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Hwa Tai Industries Berhad

How Is ROE Calculated?

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Hwa Tai Industries Berhad is:

3.7% = RM861k ÷ RM23m (Based on the trailing twelve months to September 2020).

The 'return' is the profit 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 MYR0.04 in profit.

Why Is ROE Important For 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 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.

Hwa Tai Industries Berhad's Earnings Growth And 3.7% ROE

It is quite clear that Hwa Tai Industries Berhad's ROE is rather low. Even when compared to the industry average of 7.1%, the ROE figure is pretty disappointing. Therefore, it might not be wrong to say that the five year net income decline of 42% seen by Hwa Tai Industries Berhad was possibly a result of it having a lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 6.0% in the same period, we still found Hwa Tai Industries Berhad's performance to be quite bleak, because the company has been shrinking its earnings faster than the industry.

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). This then helps them determine if the stock is placed for a bright or bleak future. 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 Hwa Tai Industries Berhad is trading on a high P/E or a low P/E, relative to its industry.

Is Hwa Tai Industries Berhad Making Efficient Use Of Its Profits?

Summary

On the whole, we feel that the performance shown by Hwa Tai Industries 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 3 risks we have identified for Hwa Tai Industries 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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