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Canaf Investments (CVE:CAF) has had a great run on the share market with its stock up by a significant 40% over the last three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Particularly, we will be paying attention to Canaf Investments' ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.
See our latest analysis for Canaf Investments
How To Calculate Return On Equity?
Return on equity can be calculated by using the formula:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Canaf Investments is:
20% = US$1.1m ÷ US$5.3m (Based on the trailing twelve months to April 2021).
The 'return' is the amount earned after tax over the last twelve months. So, this means that for every CA$1 of its shareholder's investments, the company generates a profit of CA$0.20.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.
A Side By Side comparison of Canaf Investments' Earnings Growth And 20% ROE
To start with, Canaf Investments' ROE looks acceptable. Especially when compared to the industry average of 15% the company's ROE looks pretty impressive. Probably as a result of this, Canaf Investments was able to see an impressive net income growth of 29% over the last five years. However, there could also be other causes behind this 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.
Next, on comparing Canaf Investments' net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 29% in the same period.
Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Canaf Investments is trading on a high P/E or a low P/E, relative to its industry.