Scales (NZSE: SCL) stock rose 4.8% last week. However, in this article, we’ve decided to focus on how weak its finances are, as long-term fundamentals ultimately dictate how the market performs. Specifically, we have decided to study the ROE of Scales in this article.
Return on equity or ROE is a key metric used to assess the efficiency with which the management of a business is using business capital. Simply put, it is used to assess a company’s profitability against its equity.
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How is the ROE calculated?
the ROE formula is:
Return on equity = Net income (from continuing operations) ÷ Equity
So, based on the above formula, the ROE of the scales is:
7.0% = NZ $ 27 million ÷ NZ $ 378 million (based on the last twelve months to December 2020).
“Return” refers to a company’s profits over the past year. One way to conceptualize this is that for every NZ dollar of shareholder capital it has, the company has made a profit of NZ $ 0.07.
What does ROE have to do with profit growth?
So far we’ve learned that ROE is a measure of a company’s profitability. We now need to assess how much profit the business is reinvesting or “withholding” for future growth, which then gives us an idea of the growth potential of the business. Generally speaking, all other things being equal, companies with a high return on equity and profit retention have a higher growth rate than companies that do not share these attributes.
A side-by-side comparison of Scales’ 7.0% profit growth and ROE
When you first watch it, Scales’ ROE doesn’t look so appealing. However, given that the company’s ROE is similar to the industry average ROE of 6.8%, we can think about it. But then again, Scales’ five-year net income declined at a rate of 4.1%. Remember that the company’s ROE is a bit low to begin with. Therefore, lower income could also be the result.
That being said, we compared Scales’ performance to that of the industry and got worried when we found that while the company had cut profits, the industry had increased profits at a rate of 3. , 6% over the same period.
Profit growth is an important metric to consider when valuing a stock. What investors next need to determine is whether the expected earnings growth, or lack thereof, is already built into the share price. This will help them determine if the future of the stock looks bright or worrisome. What is SCL worth today? The intrinsic value infographic in our free research report helps visualize whether SCL is currently being poorly valued by the market.
Does the balance effectively reinvest its profits?
Scales’ decline in earnings is not surprising given how the company spends most of its profits on dividends, judging by its three-year median payout rate of 93% (or a retention rate of 7.1%). With very little left to reinvest in the business, earnings growth is far from likely. You can see the 2 risks we have identified for scales by visiting our risk dashboard for free on our platform here.
Additionally, Scales paid dividends over a six-year period, meaning the management of the company is instead focused on sustaining its dividend payouts, regardless of declining profits. Based on the latest analyst estimates, we found that the company’s future payout ratio over the next three years is expected to hold steady at 82%. However, Scales’ ROE is expected to increase to 9.5% despite no anticipated change in its payout ratio.
Overall, Scales’s performance is quite disappointing. In particular, his ROE is a huge disappointment, not to mention his lack of adequate reinvestment in the business. As a result, its profit growth has also been quite disappointing. However, the latest forecast from industry analysts shows that analysts expect a significant improvement in the company’s earnings growth rate. To learn more about the company’s future earnings growth forecast, take a look at this free analyst forecast report for the company to learn more.
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