Stock Analysis

TeleMasters Holdings Limited (JSE:TLM) Stock's On A Decline: Are Poor Fundamentals The Cause?

JSE:TLM
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TeleMasters Holdings (JSE:TLM) has had a rough week with its share price down 17%. Given that stock prices are usually driven by a company’s fundamentals over the long term, which in this case look pretty weak, we decided to study the company's key financial indicators. In this article, we decided to focus on TeleMasters Holdings' 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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for TeleMasters Holdings

How Is ROE Calculated?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for TeleMasters Holdings is:

3.3% = R1.1m ÷ R33m (Based on the trailing twelve months to June 2020).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every ZAR1 worth of equity, the company was able to earn ZAR0.03 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.

TeleMasters Holdings' Earnings Growth And 3.3% ROE

It is hard to argue that TeleMasters Holdings' ROE is much good in and of itself. Not just that, even compared to the industry average of 6.2%, the company's ROE is entirely unremarkable. For this reason, TeleMasters Holdings' five year net income decline of 6.1% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

However, when we compared TeleMasters Holdings' growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 6.9% in the same period. This is quite worrisome.

past-earnings-growth
JSE:TLM Past Earnings Growth March 8th 2021

Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. 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 TeleMasters Holdings is trading on a high P/E or a low P/E, relative to its industry.

Is TeleMasters Holdings Efficiently Re-investing Its Profits?

TeleMasters Holdings' very high three-year median payout ratio of 109% over the last three years suggests that the company is paying its shareholders more than what it is earning and this explains the company's shrinking earnings. Its usually very hard to sustain dividend payments that are higher than reported profits. To know the 6 risks we have identified for TeleMasters Holdings visit our risks dashboard for free.

Additionally, TeleMasters Holdings 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.

Conclusion

On the whole, TeleMasters Holdings' 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. So far, we've only made a quick discussion around the company's earnings growth. So it may be worth checking this free detailed graph of TeleMasters Holdings' past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

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