Are Robust Financials Driving The Recent Rally In The Hour Glass Limited's (SGX:AGS) Stock?

Hour Glass (SGX:AGS) has had a great run on the share market with its stock up by a significant 20% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on Hour Glass' ROE.

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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Hour Glass

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 Hour Glass is:

11% = S$72m ÷ S$650m (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 SGD1 of shareholders' capital it has, the company made SGD0.11 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.

Hour Glass' Earnings Growth And 11% ROE

At first glance, Hour Glass seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 9.1%. This certainly adds some context to Hour Glass' decent 9.7% net income growth seen over the past five years.

We then compared Hour Glass' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 6.9% in the same period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. Doing so will help them establish if the stock's future looks promising or ominous. Is Hour Glass fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Hour Glass Making Efficient Use Of Its Profits?

With a three-year median payout ratio of 28% (implying that the company retains 72% of its profits), it seems that Hour Glass is reinvesting efficiently in a way that it sees respectable amount growth in its earnings and pays a dividend that's well covered.

Moreover, Hour Glass is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.

Summary

On the whole, we feel that Hour Glass' performance has been quite good. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 1 risk we have identified for Hour Glass visit our risks dashboard for free.

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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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