Can Yanbu National Petrochemical Company's (TADAWUL:2290) Weak Financials Pull The Plug On The Stock's Current Momentum On Its Share Price?

Most readers would already be aware that Yanbu National Petrochemical's (TADAWUL:2290) stock increased significantly by 11% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. Specifically, we decided to study Yanbu National Petrochemical's ROE in this article.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Yanbu National Petrochemical

How Do You Calculate Return On Equity?

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 Yanbu National Petrochemical is:

3.5% = ر.س516m ÷ ر.س15b (Based on the trailing twelve months to September 2020).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each SAR1 of shareholders' capital it has, the company made SAR0.03 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. 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.

Yanbu National Petrochemical's Earnings Growth And 3.5% ROE

It is hard to argue that Yanbu National Petrochemical's ROE is much good in and of itself. Even when compared to the industry average of 14%, the ROE figure is pretty disappointing. Therefore, it might not be wrong to say that the five year net income decline of 9.4% seen by Yanbu National Petrochemical was possibly a result of it having a lower ROE. We reckon that there could also be other factors at play here. For instance, the company has a very high payout ratio, or is faced with competitive pressures.

Furthermore, even when compared to the industry, which has been shrinking its earnings at a rate 2.3% in the same period, we found that Yanbu National Petrochemical's performance is pretty disappointing, as it suggests that the company has been shrunk its earnings at a rate faster than the industry.

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. Doing so will help them establish if the stock's future looks promising or ominous. Is 2290 fairly valued? This infographic on the company's intrinsic value has everything you need to know.

Is Yanbu National Petrochemical Using Its Retained Earnings Effectively?

Yanbu National Petrochemical'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 97% (or a retention ratio of 3.0%). With only very little left to reinvest into the business, growth in earnings is far from likely. To know the 2 risks we have identified for Yanbu National Petrochemical visit our risks dashboard for free.

Moreover, Yanbu National Petrochemical has been paying dividends for eight years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer consistent dividends even though earnings have been shrinking. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 89% of its profits over the next three years. Regardless, the future ROE for Yanbu National Petrochemical is predicted to rise to 13% despite there being not much change expected in its payout ratio.

Summary

On the whole, Yanbu National Petrochemical's performance is quite a big let-down. The low ROE, combined with the fact that the company is paying out almost if not all, of its profits as dividends, has resulted in 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.

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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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