Most readers would already be aware that Batu Kawan Berhad's (KLSE:BKAWAN) stock increased significantly by 17% over the past three months. But the company's key financial indicators appear to be differing across the board and that makes us question whether or not the company's current share price momentum can be maintained. In this article, we decided to focus on Batu Kawan 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 short, ROE shows the profit each dollar generates with respect to its shareholder investments.
How Do You Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Batu Kawan Berhad is:
7.2% = RM914m ÷ RM13b (Based on the trailing twelve months to September 2020).
The 'return' refers to a company's earnings over the last year. So, this means that for every MYR1 of its shareholder's investments, the company generates a profit of MYR0.07.
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.
Batu Kawan Berhad's Earnings Growth And 7.2% ROE
At first glance, Batu Kawan Berhad's ROE doesn't look very promising. Although a closer study shows that the company's ROE is higher than the industry average of 5.8% which we definitely can't overlook. But then again, seeing that Batu Kawan Berhad's net income shrunk at a rate of 17% in the past five years, makes us think again. Remember, the company's ROE is a bit low to begin with, just that it is higher than the industry average. So that could be one of the factors that are causing earnings growth to shrink.
As a next step, we compared Batu Kawan Berhad's performance with the industry and found thatBatu Kawan Berhad's performance is depressing even when compared with the industry, which has shrunk its earnings at a rate of 7.1% in the same period, which is a slower than the company.
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 Batu Kawan Berhad fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Batu Kawan Berhad Using Its Retained Earnings Effectively?
Batu Kawan Berhad's declining earnings is not surprising given how the company is spending most of its profits in paying dividends, judging by its three-year median payout ratio of 59% (or a retention ratio of 41%). The business is only left with a small pool of capital to reinvest - A vicious cycle that doesn't benefit the company in the long-run. You can see the 3 risks we have identified for Batu Kawan Berhad by visiting our risks dashboard for free on our platform here.
In addition, Batu Kawan Berhad has been paying dividends over a period of at least ten years suggesting that keeping up dividend payments is way more important to the management even if it comes at the cost of business growth.
In total, we're a bit ambivalent about Batu Kawan Berhad's performance. Primarily, we are disappointed to see a lack of growth in earnings even in spite of a moderate ROE. Bear in mind, the company reinvests a small portion of its profits, which explains the lack of growth. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. You can do your own research on Batu Kawan Berhad and see how it has performed in the past by looking at this FREE detailed graph of past earnings, revenue and cash flows.
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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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