Reservoir Link Energy Bhd (KLSE:RL) had a tough three months with its share price down 17%. However, a closer look at his healthy finances might make you think again. Since fundamentals generally determine long-term market outcomes, the company is worth looking into. Specifically, we decided to study the ROE of Reservoir Link Energy Bhd in this article.
Return on Equity or ROE is a test of how effectively a company increases its value and manages investors’ money. In simpler terms, it measures a company’s profitability relative to equity.
Check out our latest review for Reservoir Link Energy Bhd
How to calculate return on equity?
ROE can be calculated using the formula:
Return on equity = Net income (from continuing operations) ÷ Equity
So, based on the above formula, the ROE for Reservoir Link Energy Bhd is:
15% = RM12m ÷ RM81m (Based on last twelve months to December 2021).
The “yield” is the amount earned after tax over the last twelve months. Another way to think about this is that for every MYR 1 worth of equity, the company was able to make a profit of MYR 0.15.
What is the relationship between ROE and earnings growth?
We have already established that ROE serves as an effective profit-generating indicator for a company’s future earnings. Depending on how much of those earnings the company reinvests or “keeps”, and how efficiently it does so, we are then able to gauge a company’s earnings growth potential. Generally speaking, all things being equal, companies with high return on equity and earnings retention have a higher growth rate than companies that do not share these attributes.
Profit growth and 15% ROE of Reservoir Link Energy Bhd
At first glance, Reservoir Link Energy Bhd appears to have a decent ROE. Especially when compared to the industry average of 8.8%, the company’s ROE looks quite impressive. It certainly adds some context to Reservoir Link Energy Bhd’s outstanding 40% net profit growth over the past five years. We believe that there could also be other aspects that positively influence the company’s earnings growth. For example, it is possible that the management of the company has made good strategic decisions or that the company has a low payout ratio.
In a next step, we benchmarked Reservoir Link Energy Bhd’s net income growth with the industry, and fortunately, we found that the growth the company saw was above the industry average growth of 25% .
Earnings growth is an important metric to consider when evaluating a stock. The investor should try to establish whether the expected growth or decline in earnings, as the case may be, is taken into account. By doing so, he will get an idea if the title is heading for clear blue waters or if swampy waters await. A 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 outlook. So, you might want to check if Reservoir Link Energy Bhd is trading on a high P/E or a low P/E, relative to its industry.
Does Reservoir Link Energy Bhd Use Retained Earnings Effectively?
Reservoir Link Energy Bhd’s three-year median payout ratio to shareholders is 14%, which is quite low. This implies that the company retains 86% of its profits. So it looks like management is massively reinvesting earnings to grow their business, which is reflected in their earnings growth.
In addition to seeing profit growth, Reservoir Link Energy Bhd has only recently started paying dividends. It is quite possible that the company was trying to impress its shareholders.
Overall, we are quite satisfied with the performance of Reservoir Link Energy Bhd. Specifically, we like that the company reinvests a large portion of its earnings at a high rate of return. This of course caused the company to see substantial growth in profits. If the company continues to increase its earnings as it has, it could have a positive impact on its share price given how earnings per share influence prices over the long term. Not to mention that stock price results also depend on the potential risks that a company may face. It is therefore important for investors to be aware of the risks associated with the business. Our risk dashboard would contain the 3 risks we have identified for Reservoir Link Energy Bhd.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.