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Many investors are still learning about the various metrics that can be useful when analysing a stock. This article is for those who would like to learn about Return On Equity (ROE). By way of learning-by-doing, we'll look at ROE to gain a better understanding of YTL Corporation Berhad (KLSE:YTL).
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 YTL Corporation 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 YTL Corporation Berhad is:
6.1% = RM1.1b ÷ RM18b (Based on the trailing twelve months to March 2023).
The 'return' refers to a company's earnings over the last year. Another way to think of that is that for every MYR1 worth of equity, the company was able to earn MYR0.06 in profit.
Does YTL Corporation Berhad Have A Good Return On Equity?
Arguably the easiest way to assess company's ROE is to compare it with the average in its industry. Importantly, this is far from a perfect measure, because companies differ significantly within the same industry classification. If you look at the image below, you can see YTL Corporation Berhad has a lower ROE than the average (10%) in the Integrated Utilities industry classification.
That certainly isn't ideal. That being said, a low ROE is not always a bad thing, especially if the company has low leverage as this still leaves room for improvement if the company were to take on more debt. A high debt company having a low ROE is a different story altogether and a risky investment in our books. Our risks dashboard should have the 2 risks we have identified for YTL Corporation Berhad.
How Does Debt Impact ROE?
Virtually all companies need money to invest in the business, to grow profits. That cash can come from issuing shares, retained earnings, or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the use of debt will improve the returns, but will not change the equity. In this manner the use of debt will boost ROE, even though the core economics of the business stay the same.
YTL Corporation Berhad's Debt And Its 6.1% ROE
YTL Corporation Berhad does use a high amount of debt to increase returns. It has a debt to equity ratio of 2.53. The combination of a rather low ROE and significant use of debt is not particularly appealing. Investors should think carefully about how a company might perform if it was unable to borrow so easily, because credit markets do change over time.