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It is hard to get excited after looking at AdvanSix's (NYSE:ASIX) recent performance, when its stock has declined 20% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on AdvanSix's ROE.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
See our latest analysis for AdvanSix
How To Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for AdvanSix is:
12% = US$93m ÷ US$754m (Based on the trailing twelve months to September 2023).
The 'return' is the profit over the last twelve months. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.12 in profit.
What Is The Relationship Between ROE And Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
AdvanSix's Earnings Growth And 12% ROE
To start with, AdvanSix's ROE looks acceptable. And on comparing with the industry, we found that the the average industry ROE is similar at 13%. This certainly adds some context to AdvanSix's exceptional 22% net income growth seen over the past five years. However, there could also be other drivers behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.
Next, on comparing with the industry net income growth, we found that AdvanSix's growth is quite high when compared to the industry average growth of 12% in the same period, which is great to see.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is ASIX fairly valued? This infographic on the company's intrinsic value has everything you need to know.