Hour Glass Ltd (SGX: AGS) is in the business of retailing luxury watches. It has a network of over 40 stores in Singapore, Malaysia, Thailand, Japan, Hong Kong, and Australia.
The company is an official retailer of some of the world finest brands, such as Audemars Piguet, Cartier, and Patek Philippe.
In this article, I want to dig deep into Hour Glass’s return on equity, or ROE.
The choice of ROE
Why the ROE some of you might be asking? That’s because the financial metric gives investors important insight on a company’s ability to generate a profit using the shareholders’ capital it has.
A ROE of 20% means that a company generates $0.20 in profit for every dollar of shareholders’ capital. 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
The ROE can be calculated commonly 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 could be taking on. For more information about this formula, you can check out here.
With that, let’s turn our attention to the ROE of Hour Glass.
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 Hour Glass, it had total revenue of S$691.6 million and total assets of S$626.1 million in its fiscal year ended 31 March 2018 (FY2017/18). This gives an asset turnover of 1.10.
The net profit margin measures the percentage of revenue that is left as a profit after deduction of all expenses. In FY2017/18, Hour Glass had a net profit margin of 7.3%, given its net profit of S$50.7 million and revenue of S$691.6 million.
Lastly, we have the leverage ratio, which shows the relationship of a company’s total assets to 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 FY2017/18, Hour Glass had total assets and total equity of S$519.6 million and S$626.1 million respectively. This gives a leverage ratio of 1.20.
When we put all the numbers together, we arrive at an ROE of 9.8%.
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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.