Is Kuala Lumpur Kepong Berhad's (KLSE:KLK) Recent Price Movement Underpinned By Its Weak Fundamentals?

Kuala Lumpur Kepong Berhad (KLSE:KLK) has had a rough week with its share price down 2.2%. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. In this article, we decided to focus on Kuala Lumpur Kepong Berhad's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out our latest analysis for Kuala Lumpur Kepong Berhad

How Do You 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 Kuala Lumpur Kepong Berhad is:

5.4% = RM855m ÷ RM16b (Based on the trailing twelve months to June 2024).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every MYR1 of its shareholder's investments, the company generates a profit of MYR0.05.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

Kuala Lumpur Kepong Berhad's Earnings Growth And 5.4% ROE

It is quite clear that Kuala Lumpur Kepong Berhad's ROE is rather low. Not just that, even compared to the industry average of 10.0%, the company's ROE is entirely unremarkable. However, the moderate 7.6% net income growth seen by Kuala Lumpur Kepong Berhad over the past five years is definitely a positive. Therefore, the growth in earnings could probably have been caused by other variables. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared Kuala Lumpur Kepong Berhad's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 23% in the same period.

Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Kuala Lumpur Kepong Berhad's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Kuala Lumpur Kepong Berhad Efficiently Re-investing Its Profits?

While Kuala Lumpur Kepong Berhad has a three-year median payout ratio of 54% (which means it retains 46% of profits), the company has still seen a fair bit of earnings growth in the past, meaning that its high payout ratio hasn't hampered its ability to grow.

Additionally, Kuala Lumpur Kepong Berhad has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 52% of its profits over the next three years. Regardless, the future ROE for Kuala Lumpur Kepong Berhad is predicted to rise to 8.7% despite there being not much change expected in its payout ratio.

Summary

On the whole, we feel that the performance shown by Kuala Lumpur Kepong Berhad can be open to many interpretations. While no doubt its earnings growth is pretty respectable, the low profit retention could mean that the company's earnings growth could have been higher, had it been paying reinvesting a higher portion of its profits. An improvement in its ROE could also help future earnings growth. With that said, the latest industry analyst forecasts reveal that the company's earnings are expected to accelerate. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.