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Sime Darby Berhad's (KLSE:SIME) Fundamentals Look Pretty Strong: Could The Market Be Wrong About The Stock?

Sime Darby Berhad (KLSE:SIME) has had a rough three months with its share price down 9.5%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Specifically, we decided to study Sime Darby Berhad's ROE in this article.

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 Sime Darby Berhad

How Do You Calculate Return On Equity?

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 Sime Darby Berhad is:

7.0% = RM1.1b ÷ RM16b (Based on the trailing twelve months to March 2023).

The 'return' is the income the business earned over the last year. One way to conceptualize this is that for each MYR1 of shareholders' capital it has, the company made MYR0.07 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

Sime Darby Berhad's Earnings Growth And 7.0% ROE

When you first look at it, Sime Darby Berhad's ROE doesn't look that attractive. Yet, a closer study shows that the company's ROE is similar to the industry average of 6.6%. On the other hand, Sime Darby Berhad reported a moderate 13% net income growth over the past five years. Given the slightly low ROE, it is likely that there could be some other aspects that are driving this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

We then performed a comparison between Sime Darby Berhad's net income growth with the industry, which revealed that the company's growth is similar to the average industry growth of 13% in the same period.

past-earnings-growth
past-earnings-growth

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). This then helps them determine if the stock is placed for a bright or bleak future. Has the market priced in the future outlook for SIME? You can find out in our latest intrinsic value infographic research report.

Is Sime Darby Berhad Efficiently Re-investing Its Profits?

Sime Darby Berhad has a significant three-year median payout ratio of 67%, meaning that it is left with only 33% to reinvest into its business. This implies that the company has been able to achieve decent earnings growth despite returning most of its profits to shareholders.

Besides, Sime Darby Berhad has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 66%. Accordingly, forecasts suggest that Sime Darby Berhad's future ROE will be 8.0% which is again, similar to the current ROE.

Summary

On the whole, we do feel that Sime Darby Berhad has some positive attributes. That is, quite an impressive growth in earnings. However, the low profit retention means that the company's earnings growth could have been higher, had it been reinvesting a higher portion of its profits. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

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