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1 Simple Number to Understand 3 Important Areas of QAF Limited’s Business

 QAF Limited (SGX: Q01) is a food production company. It is involved in bakery operations, pork production, food processing and distribution, feed milling, food trading and distribution, food manufacturing, and wine distribution. In addition, the company also owns warehouses which it leases out.

Some of the more prominent brands the company has in its portfolio are Gardenia, Cowhead and Farmland.

In this article, I want to dig deep into QAF Limited’s return on equity (ROE).

The choice of ROE

Some of you might be wondering why use ROE. This financial metric gives investors important insights on a company’s ability to generate a profit using shareholders’ capital.

A ROE of 20% means that a company generates $0.20 in profit for every dollar of shareholders’ capital invested. In general, the higher the ROE, the more profitable a company is. A high ROE can also be a sign that a company has a high quality business.

That being said, it’s worth noting that the use of high leverage – which increases the financial risk faced by a company – can also increase a company’s ROE. So, that’s something to observe.

Calculating the ROE

ROE is commonly calculated using the following formula:

ROE = Net Profit / Shareholder’s Equity

But, the ROE can also be calculated using a different approach shown below:

ROE = Asset Turnover x Net Profit Margin x Leverage Ratio

Doing so will reveal three important aspects about a company: How well it is managing its assets, how efficient it is at turning revenue into profit, and how much financial risk it is taking on. For more information about this version of the ROE formula, you can head here.

With that, let’s turn our attention to the ROE of QAF Limited.

The actual numbers

The asset turnover measures the efficiency of a company in using its assets to generate revenue. It is calculated by dividing a company’s total revenue by its assets.

For QAF Limited, it had a total revenue of S$889.5 million, and total assets of S$772.4 million for its fiscal year ended 31 December 2016 (FY2016). This gives an asset turnover of 1.15.

The net profit margin measures the percentage of revenue that is left as a profit after deduction of all expenses. In FY2016, QAF Limited had a net profit margin of 6.4%, given its net profit of S$57 million (excluding the one-off gain on disposal of S$59.4 million) and revenue of S$889.5 million.

Lastly, we have the leverage ratio, which shows the relationship between a company’s total assets and its equity. It is calculated by dividing total assets by equity. A higher ratio means that a company is funding its assets with more liabilities, hence resulting in higher risk. In FY2016, QAF Limited had total assets and total equity of S$772.4 million and S$528.2 million respectively. This gives a leverage ratio of 1.46.

When we put all the numbers together, we arrive at a ROE of 10.7%.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Lawrence Nga doesn’t own shares in any companies mentioned.