Can Financials Drive LMS Compliance Ltd.’s (Catalist:LMS) Stock Price Higher?

It is easy to overlook LMS Compliance’s (Catalist:LMS) given its unimpressive and roughly flat price performance over the past week. However, attentive investors would probably give more consideration to the stock as the company’s fundamentals could add more to the story, given how long-term financials are usually what drive market prices. Particularly, we will be paying attention to LMS Compliance’s ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company’s management is utilizing the company’s capital. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

Check out our latest analysis for LMS Compliance

How Is ROE Calculated?

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 LMS Compliance is:

18% = RM5.5m ÷ RM31m (Based on the trailing twelve months to December 2023).

The ‘return’ refers to a company’s earnings over the last year. One way to conceptualize this is that for each SGD1 of shareholders’ capital it has, the company made SGD0.18 in profit.

What Is The Relationship Between ROE And Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

LMS Compliance’s Earnings Growth And 18% ROE

At first glance, LMS Compliance seems to have a decent ROE. Further, the company’s ROE is similar to the industry average of 18%. As you might expect, the 17% net income decline reported by LMS Compliance is a bit of a surprise. We reckon that there could be some other factors at play here that are preventing the company’s growth. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.

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That being said, we compared LMS Compliance’s performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 8.0% in the same 5-year period.

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 LMS? You can find out in our latest intrinsic value infographic research report

Is LMS Compliance Making Efficient Use Of Its Profits?

Looking at its three-year median payout ratio of 50% (or a retention ratio of 50%) which is pretty normal, LMS Compliance’s declining earnings is rather baffling as one would expect to see a fair bit of growth when a company is retaining a good portion of its profits. It looks like there might be some other reasons to explain the lack in that respect. For example, the business could be in decline.

Additionally, LMS Compliance started paying a dividend only recently. So it looks like management may have perceived that shareholders favor dividends even though earnings have been in decline.

Conclusion

Overall, we do feel that LMS Compliance has some positive attributes. Yet, the low earnings growth is a bit concerning, especially given that the company has a high rate of return and is reinvesting a huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that’s preventing growth. 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 LMS Compliance by visiting our risks dashboard for free on our platform here.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email [email protected]

 
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