Oriental Food Industries Holdings Berhad (KLSE:OFI) Stock Is Going Strong But Fundamentals Look Uncertain: What Lies Ahead ?

Oriental Food Industries Holdings Berhad's (KLSE:OFI) stock is up by a considerable 18% over the past month. 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. In this article, we decided to focus on Oriental Food Industries Holdings Berhad's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Oriental Food Industries Holdings 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 Oriental Food Industries Holdings Berhad is:

7.8% = RM17m ÷ RM212m (Based on the trailing twelve months to September 2021).

The 'return' is the yearly profit. One way to conceptualize this is that for each MYR1 of shareholders' capital it has, the company made MYR0.08 in profit.

What Is The Relationship Between ROE And 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Oriental Food Industries Holdings Berhad's Earnings Growth And 7.8% ROE

On the face of it, Oriental Food Industries Holdings Berhad's ROE is not much to talk about. Yet, a closer study shows that the company's ROE is similar to the industry average of 8.3%. Having said that, Oriental Food Industries Holdings Berhad's five year net income decline rate was 3.4%. Bear in mind, the company does have a slightly low ROE. Therefore, the decline in earnings could also be the result of this.

Next, when we compared with the industry, which has shrunk its earnings at a rate of 0.4% in the same period, we still found Oriental Food Industries Holdings 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. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 Oriental Food Industries Holdings Berhad is trading on a high P/E or a low P/E, relative to its industry.

Is Oriental Food Industries Holdings Berhad Making Efficient Use Of Its Profits?

Despite having a normal three-year median payout ratio of 35% (where it is retaining 65% of its profits), Oriental Food Industries Holdings Berhad has seen a decline in earnings as we saw above. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, Oriental Food Industries Holdings 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.

Conclusion

In total, we're a bit ambivalent about Oriental Food Industries Holdings Berhad's performance. 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 Oriental Food Industries Holdings Berhad visit our risks dashboard for free.

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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.