Saudia Dairy & Foodstuff's (TADAWUL:2270) stock is up by 4.5% over the past week. However, its weak financial performance indicators makes us a bit doubtful if that trend could continue. Specifically, we decided to study Saudia Dairy & Foodstuff's ROE in this article.
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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.
How To 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 Saudia Dairy & Foodstuff is:
13% = ر.س202m ÷ ر.س1.6b (Based on the trailing twelve months to December 2021).
The 'return' is the yearly profit. One way to conceptualize this is that for each SAR1 of shareholders' capital it has, the company made SAR0.13 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. 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. 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 Saudia Dairy & Foodstuff's Earnings Growth And 13% ROE
When you first look at it, Saudia Dairy & Foodstuff's ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 11%. But Saudia Dairy & Foodstuff saw a five year net income decline of 4.4% over the past five years. Bear in mind, the company does have a slightly low ROE. Therefore, the decline in earnings could also be the result of this.
With the industry earnings declining at a rate of 4.4% in the same period, we deduce that both the company and the industry are shrinking at the same rate.
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 Saudia Dairy & Foodstuff's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Saudia Dairy & Foodstuff Making Efficient Use Of Its Profits?
Saudia Dairy & Foodstuff'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 62% (or a retention ratio of 38%). With only a little being reinvested into the business, earnings growth would obviously be low or non-existent.
Additionally, Saudia Dairy & Foodstuff 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. Upon studying the latest analysts' consensus data, we found that the company's future payout ratio is expected to rise to 80% over the next three years. Regardless, the future ROE for Saudia Dairy & Foodstuff is speculated to rise to 16% despite the anticipated increase in the payout ratio. There could probably be other factors that could be driving the future growth in the ROE.
In total, we would have a hard think before deciding on any investment action concerning Saudia Dairy & Foodstuff. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. With that said, we studied the latest analyst forecasts and found that while the company has shrunk its earnings in the past, analysts expect its earnings to grow in the future. 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.
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.