Is Zahrat Al Waha For Trading Company's (TADAWUL:3007) Recent Stock Performance Influenced By Its Fundamentals In Any Way?

Zahrat Al Waha For Trading's (TADAWUL:3007) stock is up by a considerable 17% over the past three months. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on Zahrat Al Waha For Trading's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for Zahrat Al Waha For Trading

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 Zahrat Al Waha For Trading is:

21% = ر.س49m ÷ ر.س238m (Based on the trailing twelve months to September 2020).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each SAR1 of shareholders' capital it has, the company made SAR0.21 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. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Zahrat Al Waha For Trading's Earnings Growth And 21% ROE

To begin with, Zahrat Al Waha For Trading seems to have a respectable ROE. On comparing with the average industry ROE of 7.9% the company's ROE looks pretty remarkable. However, for some reason, the higher returns aren't reflected in Zahrat Al Waha For Trading's meagre five year net income growth average of 2.2%. This is interesting as the high returns should mean that the company has the ability to generate high growth but for some reason, it hasn't been able to do so. We reckon that a low growth, when returns are quite high could be the result of certain circumstances like low earnings retention or poor allocation of capital.

Next, on comparing with the industry net income growth, we found that Zahrat Al Waha For Trading's reported growth was lower than the industry growth of 7.2% in the same period, which is not something we like to see.

Earnings growth is an important metric to consider when valuing a stock. 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 Zahrat Al Waha For Trading is trading on a high P/E or a low P/E, relative to its industry.

Is Zahrat Al Waha For Trading Making Efficient Use Of Its Profits?

Despite having a moderate three-year median payout ratio of 39% (implying that the company retains the remaining 61% of its income), Zahrat Al Waha For Trading's earnings growth was quite low. Therefore, there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Moreover, Zahrat Al Waha For Trading has been paying dividends for three years, which is a considerable amount of time, suggesting that management must have perceived that the shareholders prefer dividends over earnings growth.

Conclusion

Overall, we feel that Zahrat Al Waha For Trading 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 high 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. You can see the 2 risks we have identified for Zahrat Al Waha For Trading by visiting our risks dashboard for free on our platform here.

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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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