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adesso (ETR:ADN1) has had a rough three months with its share price down 22%. But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to adesso's ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
See our latest analysis for adesso
How Do You Calculate Return On Equity?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for adesso is:
8.4% = €18m ÷ €217m (Based on the trailing twelve months to March 2023).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each €1 of shareholders' capital it has, the company made €0.08 in profit.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
adesso's Earnings Growth And 8.4% ROE
To start with, adesso's ROE looks acceptable. Yet, the fact that the company's ROE is lower than the industry average of 11% does temper our expectations. However, we are pleased to see the impressive 21% net income growth reported by adesso over the past five years. We believe that there might be other aspects that are positively influencing the company's earnings growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio. Bear in mind, the company does have a respectable ROE. It is just that the industry ROE is higher. So this certainly also provides some context to the high earnings growth seen by the company.
As a next step, we compared adesso's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 21% in the same period.