Tek Seng Holdings Berhad (KLSE:TEKSENG) Stock's Been Sliding But Fundamentals Look Decent: Will The Market Correct The Share Price In The Future?

Tek Seng Holdings Berhad (KLSE:TEKSENG) has had a rough three months with its share price down 14%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Specifically, we decided to study Tek Seng Holdings Berhad's ROE in this article.

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Tek Seng Holdings Berhad

How Is ROE Calculated?

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 Tek Seng Holdings Berhad is:

10% = RM27m ÷ RM256m (Based on the trailing twelve months to December 2020).

The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each MYR1 of shareholders' capital it has, the company made MYR0.10 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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. 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.

A Side By Side comparison of Tek Seng Holdings Berhad's Earnings Growth And 10% ROE

At first glance, Tek Seng Holdings Berhad's ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 6.8% doesn't go unnoticed by us. However, Tek Seng Holdings Berhad's five year net income decline rate was 42%. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. So that could be one of the factors that are causing earnings growth to shrink.

As a next step, we compared Tek Seng Holdings Berhad's performance with the industry and found thatTek Seng Holdings Berhad's performance is depressing even when compared with the industry, which has shrunk its earnings at a rate of 4.9% in the same period, which is a slower than the company.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Tek Seng Holdings Berhad is trading on a high P/E or a low P/E, relative to its industry.

Is Tek Seng Holdings Berhad Using Its Retained Earnings Effectively?

Tek Seng Holdings Berhad's low three-year median payout ratio of 6.5% (or a retention ratio of 93%) over the last three years should mean that the company is retaining most of its earnings to fuel its growth but the company's earnings have actually shrunk. The low payout should mean that the company is retaining most of its earnings and consequently, should see some growth. So there could be some other explanations in that regard. For example, the company's business may be deteriorating.

Moreover, Tek Seng Holdings Berhad has been paying dividends for at least ten years or more suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Conclusion

Overall, we feel that Tek Seng Holdings Berhad certainly does have some positive factors to consider. Although, we are disappointed to see a lack of growth in earnings even in spite of a moderate ROE and and a high reinvestment rate. We believe that there might be some outside factors that could be having a negative impact on the business. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. Our risks dashboard would have the 4 risks we have identified for Tek Seng Holdings Berhad.

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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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