Does Hartalega Holdings Berhad's (KLSE:HARTA) Weak Fundamentals Mean That The Market Could Correct Its Share Price?

Hartalega Holdings Berhad (KLSE:HARTA) has had a great run on the share market with its stock up by a significant 22% over the last three months. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimately dictates market outcomes. In this article, we decided to focus on Hartalega 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 other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Hartalega Holdings Berhad

How Do You Calculate Return On Equity?

The formula for return on equity is:

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

So, based on the above formula, the ROE for Hartalega Holdings Berhad is:

2.2% = RM103m ÷ RM4.7b (Based on the trailing twelve months to June 2024).

The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each MYR1 of shareholders' capital it has, the company made MYR0.02 in profit.

Why Is ROE Important For Earnings Growth?

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

Hartalega Holdings Berhad's Earnings Growth And 2.2% ROE

It is hard to argue that Hartalega Holdings Berhad's ROE is much good in and of itself. Not just that, even compared to the industry average of 8.3%, the company's ROE is entirely unremarkable. For this reason, Hartalega Holdings Berhad's five year net income decline of 21% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

However, when we compared Hartalega Holdings Berhad's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 8.3% in the same period. This is quite worrisome.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is Hartalega Holdings Berhad fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Hartalega Holdings Berhad Making Efficient Use Of Its Profits?

With a high three-year median payout ratio of 57% (implying that 43% of the profits are retained), most of Hartalega Holdings Berhad's profits are being paid to shareholders, which explains the company's shrinking earnings. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent.

Additionally, Hartalega 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. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 56%. However, Hartalega Holdings Berhad's ROE is predicted to rise to 6.3% despite there being no anticipated change in its payout ratio.

Conclusion

In total, we would have a hard think before deciding on any investment action concerning Hartalega Holdings Berhad. The company has seen a lack of earnings growth as a result of retaining very little profits and whatever little it does retain, is being reinvested at a very low rate of return. Having said that, looking at current analyst estimates, we found that the company's earnings growth rate is expected to see a huge improvement. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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.