Advertisement
New Zealand markets closed
  • NZX 50

    12,105.29
    +94.63 (+0.79%)
     
  • NZD/USD

    0.5989
    +0.0014 (+0.23%)
     
  • NZD/EUR

    0.5543
    +0.0010 (+0.18%)
     
  • ALL ORDS

    8,153.70
    +80.10 (+0.99%)
     
  • ASX 200

    7,896.90
    +77.30 (+0.99%)
     
  • OIL

    83.11
    -0.06 (-0.07%)
     
  • GOLD

    2,254.80
    +16.40 (+0.73%)
     
  • NASDAQ

    18,254.69
    -26.15 (-0.14%)
     
  • FTSE

    7,952.62
    +20.64 (+0.26%)
     
  • Dow Jones

    39,807.37
    +47.29 (+0.12%)
     
  • DAX

    18,492.49
    +15.40 (+0.08%)
     
  • Hang Seng

    16,541.42
    +148.58 (+0.91%)
     
  • NIKKEI 225

    40,369.44
    +201.37 (+0.50%)
     
  • NZD/JPY

    90.4750
    +0.0820 (+0.09%)
     

Scott Technology Limited's (NZSE:SCT) Stock Going Strong But Fundamentals Look Weak: What Implications Could This Have On The Stock?

Most readers would already be aware that Scott Technology's (NZSE:SCT) stock increased significantly by 17% over the past three months. However, we decided to pay close attention to its weak financials as we are doubtful that the current momentum will keep up, given the scenario. In this article, we decided to focus on Scott Technology's ROE.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.

View our latest analysis for Scott Technology

How Is ROE Calculated?

The formula for ROE is:

ADVERTISEMENT

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

So, based on the above formula, the ROE for Scott Technology is:

0.9% = NZ$886k ÷ NZ$93m (Based on the trailing twelve months to February 2021).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every NZ$1 of its shareholder's investments, the company generates a profit of NZ$0.01.

What Has ROE Got To Do With 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 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.

Scott Technology's Earnings Growth And 0.9% ROE

It is quite clear that Scott Technology's ROE is rather low. Even compared to the average industry ROE of 12%, the company's ROE is quite dismal. For this reason, Scott Technology's five year net income decline of 39% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. Such as - low earnings retention or poor allocation of capital.

So, as a next step, we compared Scott Technology's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 7.4% in the same period.

past-earnings-growth
past-earnings-growth

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. Is Scott Technology fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Scott Technology Making Efficient Use Of Its Profits?

Scott Technology has a high three-year median payout ratio of 65% (that is, it is retaining 35% of its profits). This suggests that the company is paying most of its profits as dividends to its shareholders. This goes some way in explaining why its earnings have been shrinking. With only a little being reinvested into the business, earnings growth would obviously be low or non-existent. To know the 2 risks we have identified for Scott Technology visit our risks dashboard for free.

Additionally, Scott Technology 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

Overall, we would be extremely cautious before making any decision on Scott Technology. Because the company is not reinvesting much into the business, and given the low ROE, it's not surprising to see the lack or absence of growth in its earnings. Until now, we have only just grazed the surface of the company's past performance by looking at the company's fundamentals. So it may be worth checking this free detailed graph of Scott Technology's past earnings, as well as revenue and cash flows to get a deeper insight into the company's performance.

This article by Simply Wall St is general in nature. 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.

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