Singapore Airlines Ltd (SGX: C6L), or SIA, is the national airline of Singapore. Aside from its traditional airline business, it also owns other brands like SilkAir and Scoot. SIA also has a subsidiary, SIA Engineering Company Ltd (SGX: S59), that specialises in aircraft maintenance, repair, and overhaul (MRO) services.
In this article, I want to dig deep into SIA’s return on equity, or ROE.
The choice of ROE
Why ROE some of you might be asking? That’s because the financial metric gives investors important insights 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 invested. In general, the higher the ROE, the more profitable the 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.
ROE can be calculated using the following formula, which is commonly used by many investors:
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.
With that, let’s turn our attention to the ROE of SIA.
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 SIA, it had total revenue of S$15.8 billion and total assets of S$21.0 billion in its fiscal year ended 31 March 2018 (FY2018). This gives an asset turnover of 0.75.
The net profit margin measures the percentage of revenue that is left as a profit after deduction of all expenses. In FY2018, SIA had a net profit margin of 5.9%, given its net profit of S$936.8 million and revenue of S$15.8 billion.
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 the company is funding its assets with more liabilities, hence resulting in higher risk. In FY2018, SIA had total assets and total equity of S$21.0 billion and S$14.6 billion, respectively. This gives a leverage ratio of 3.06.
When we put all the numbers together, we arrive at an ROE of 6.4%.
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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.