Saudi Ceramic (TADAWUL:2040) has had a great run on the share market with its stock up by a significant 47% over the last 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. Specifically, we decided to study Saudi Ceramic'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.
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 Saudi Ceramic is:
8.2% = ر.س131m ÷ ر.س1.6b (Based on the trailing twelve months to March 2021).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each SAR1 of shareholders' capital it has, the company made SAR0.08 in profit.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
A Side By Side comparison of Saudi Ceramic's Earnings Growth And 8.2% ROE
It is quite clear that Saudi Ceramic's ROE is rather low. An industry comparison shows that the company's ROE is not much different from the industry average of 7.8% either. Given the low ROE Saudi Ceramic's five year net income decline of 8.3% is not surprising.
That being said, we compared Saudi Ceramic's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 3.4% 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. If you're wondering about Saudi Ceramic's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Saudi Ceramic Using Its Retained Earnings Effectively?
Saudi Ceramic doesn't pay any dividend, meaning that the company is keeping all of its profits, which makes us wonder why it is retaining its earnings if it can't use them to grow its business. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.
Overall, we have mixed feelings about Saudi Ceramic. While the company does have a high rate of profit retention, its low rate of return is probably hampering its earnings growth. 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 company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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