Raffles Medical Group Ltd (SGX: BSL) runs hospital and healthcare services in Singapore. It also has a network of clinics in five countries and 14 cities. Also, it has two hospitals (one under development) in China.
In this article, I want to dig deeper into Raffles Medical’s return on equity, or ROE.
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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.
An ROE of 20% means that a company generates $0.20 in profit for every dollar of shareholders’ capital invested. In general, the higher the ROE, the more profitable a company is. A high ROE can also be a sign that a company has a high quality business.
That being said, it’s worth noting that the use of high leverage – which increases the financial risk faced by a company – can also increase a company’s ROE. So, that’s something to observe.
Calculating the ROE
The ROE can be calculated using the following formula, which is the way many investors do it:
ROE = Net Profit / Shareholder’s Equity
But, the ROE can also be calculated using a different approach shown below:
ROE = Asset Turnover x Net Profit Margin x Leverage Ratio
Doing so will reveal three important aspects about a company: How well it is managing its assets, how efficient it is at turning revenue into profit, and how much financial risk it could be taking on. For more information about this formula for ROE, you can go here.
With that, let’s turn our attention to the ROE of Raffles Medical.
The actual numbers
The asset turnover measures the efficiency of a company in using its assets to generate revenue. It is calculated by dividing a company’s total revenue by its assets.
For Raffles Medical, it had total revenue of S$ 489.1 million, and total assets of S$ 1, 116.3 million for its fiscal year ended 31 December 2018 (FY2018). This gives it an asset turnover of 0.44.
The net profit margin measures the percentage of revenue that is left as a profit after deduction of all expenses. In FY2018, Raffles Medical had a net profit margin of 14.5%, given its net profit of S$70.8 million and revenue of S$ 489.1 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 FY2018, Raffles Medical had total assets and total equity of S$ 1,116.3 million and S$ 816.6 million, respectively. This gives a leverage ratio of 1.37.
When we put all the numbers together, we arrive at an ROE of 9%.
Return on equity is a good metric to understand the quality of a business. Nevertheless, investors should be aware of (and understand) all the three components that make up the ROE. In general, I will pay more attention to asset turnover and profit margin since those two metrics better reflect Raffles Medical’s underlying business performance.
Last but not least, calculating the ROE is just the start of our research of a company. We should also compare Raffles Medical’s ROE with its peers, as well as its historical ROE, to get a better understanding of Raffles Medical’s performance.
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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. The Motley Fool Singapore has recommended the shares of Raffles Medical Group Ltd.