1 Simple Number To Understand 3 Important Areas Of Vicom Limited’s Business

Credit: andrechinn

Vicom Limited (SGX: V01) is a leading provider of technical testing and inspection services with operations primarily in Singapore. The company is majority-owned by land-transport giant, ComfortDelGro Corporation Ltd (SGX: C52).

In this article, I want to dig deep into Vicom’s return on equity, or 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 Vicom.

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 Vicom, it had total revenue of S$97.0 million and total assets of S$179.5 million for its fiscal year ended 31 December 2017 (FY2017). This gives an asset turnover of 0.54.

The net profit margin measures the percentage of revenue that is left as a profit after deduction of all expenses. In FY2017, Vicom had a net profit margin of 27.7%, given its net profit of S$26.9 million and revenue of S$97.0 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 taking on higher risk. In FY2017, Vicom had total assets and total equity of S$179.5 million and S$149.3 million, respectively. This gives a leverage ratio of 1.20.

When we put all the numbers together, we arrive at a ROE of 17.9%.

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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.