Is K-Fast Holding AB (publ) (STO:KFAST B) A High Quality Stock To Own?

By
Simply Wall St
Published
January 15, 2022
OM:KFAST B
Source: Shutterstock

While some investors are already well versed in financial metrics (hat tip), this article is for those who would like to learn about Return On Equity (ROE) and why it is important. To keep the lesson grounded in practicality, we'll use ROE to better understand K-Fast Holding AB (publ) (STO:KFAST B).

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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

Check out our latest analysis for K-Fast Holding

How Do You Calculate Return On Equity?

Return on equity 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 K-Fast Holding is:

22% = kr854m ÷ kr3.9b (Based on the trailing twelve months to September 2021).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each SEK1 of shareholders' capital it has, the company made SEK0.22 in profit.

Does K-Fast Holding Have A Good ROE?

By comparing a company's ROE with its industry average, we can get a quick measure of how good it is. Importantly, this is far from a perfect measure, because companies differ significantly within the same industry classification. As is clear from the image below, K-Fast Holding has a better ROE than the average (16%) in the Real Estate industry.

roe
OM:KFAST B Return on Equity January 15th 2022

That is a good sign. However, bear in mind that a high ROE doesn’t necessarily indicate efficient profit generation. Especially when a firm uses high levels of debt to finance its debt which may boost its ROE but the high leverage puts the company at risk. To know the 6 risks we have identified for K-Fast Holding visit our risks dashboard for free.

How Does Debt Impact ROE?

Companies usually need to invest money to grow their profits. That cash can come from retained earnings, issuing new shares (equity), or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the use of debt will improve the returns, but will not change the equity. That will make the ROE look better than if no debt was used.

Combining K-Fast Holding's Debt And Its 22% Return On Equity

K-Fast Holding clearly uses a high amount of debt to boost returns, as it has a debt to equity ratio of 1.34. Its ROE is pretty impressive but, it would have probably been lower without the use of debt. Debt does bring extra risk, so it's only really worthwhile when a company generates some decent returns from it.

Summary

Return on equity is useful for comparing the quality of different businesses. Companies that can achieve high returns on equity without too much debt are generally of good quality. All else being equal, a higher ROE is better.

But ROE is just one piece of a bigger puzzle, since high quality businesses often trade on high multiples of earnings. Profit growth rates, versus the expectations reflected in the price of the stock, are a particularly important to consider. Check the past profit growth by K-Fast Holding by looking at this visualization of past earnings, revenue and cash flow.

Of course, you might find a fantastic investment by looking elsewhere. So take a peek at this free list of interesting companies.

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