Kim Heng Limited's (Catalist:5G2) Stock Has Seen Strong Momentum: Does That Call For Deeper Study Of Its Financial Prospects?

Kim Heng (Catalist:5G2) has had a great run on the share market with its stock up by a significant 23% over the last week. Given that stock prices are usually aligned with a company's financial performance in the long-term, we decided to study its financial indicators more closely to see if they had a hand to play in the recent price move. In this article, we decided to focus on Kim Heng's 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. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Kim Heng

How To 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 Kim Heng is:

3.7% = S$2.3m ÷ S$63m (Based on the trailing twelve months to December 2023).

The 'return' is the yearly profit. One way to conceptualize this is that for each SGD1 of shareholders' capital it has, the company made SGD0.04 in profit.

What Has ROE Got To Do With Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.

A Side By Side comparison of Kim Heng's Earnings Growth And 3.7% ROE

It is quite clear that Kim Heng's ROE is rather low. Even compared to the average industry ROE of 5.9%, the company's ROE is quite dismal. In spite of this, Kim Heng was able to grow its net income considerably, at a rate of 55% in the last five years. We reckon that there could be other factors at play here. Such as - high earnings retention or an efficient management in place.

We then compared Kim Heng's 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 41% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Kim Heng's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Kim Heng Efficiently Re-investing Its Profits?

Kim Heng's three-year median payout ratio is a pretty moderate 42%, meaning the company retains 58% of its income. So it seems that Kim Heng is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Besides, Kim Heng has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders.

Summary

Overall, we feel that Kim Heng certainly does have some positive factors to consider. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 3 risks we have identified for Kim Heng by visiting our risks dashboard for free on our platform here.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.