Smile-Link Healthcare Global Berhad's (KLSE:SMILE) Stock Is Rallying But Financials Look Ambiguous: Will The Momentum Continue?

Most readers would already be aware that Smile-Link Healthcare Global Berhad's (KLSE:SMILE) stock increased significantly by 43% over the past three months. However, we wonder if the company's inconsistent financials would have any adverse impact on the current share price momentum. Specifically, we decided to study Smile-Link Healthcare Global Berhad's ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Smile-Link Healthcare Global 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 Smile-Link Healthcare Global Berhad is:

5.6% = RM2.0m ÷ RM36m (Based on the trailing twelve months to June 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 MYR0.06 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

A Side By Side comparison of Smile-Link Healthcare Global Berhad's Earnings Growth And 5.6% ROE

It is quite clear that Smile-Link Healthcare Global Berhad's ROE is rather low. Even compared to the average industry ROE of 10%, the company's ROE is quite dismal. Therefore, it might not be wrong to say that the five year net income decline of 11% seen by Smile-Link Healthcare Global Berhad was possibly a result of it having a lower ROE. However, there could also be other factors causing the earnings to decline. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

So, as a next step, we compared Smile-Link Healthcare Global Berhad's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 7.2% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is Smile-Link Healthcare Global Berhad fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Smile-Link Healthcare Global Berhad Efficiently Re-investing Its Profits?

Looking at its three-year median payout ratio of 33% (or a retention ratio of 67%) which is pretty normal, Smile-Link Healthcare Global Berhad's declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Only recently, Smile-Link Healthcare Global Berhad stated paying a dividend. This likely means that the management might have concluded that its shareholders have a strong preference for dividends.

Summary

Overall, we have mixed feelings about Smile-Link Healthcare Global Berhad. While the company does have a high rate of profit retention, its low rate of return is probably hampering its 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 5 risks we have identified for Smile-Link Healthcare Global 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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