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It is hard to get excited after looking at Civmec's (SGX:P9D) recent performance, when its stock has declined 4.8% 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. Specifically, we decided to study Civmec's ROE in this article.
ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
See our latest analysis for Civmec
How Is ROE Calculated?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Civmec is:
14% = AU$58m ÷ AU$421m (Based on the trailing twelve months to June 2023).
The 'return' refers to a company's earnings over the last year. One way to conceptualize this is that for each SGD1 of shareholders' capital it has, the company made SGD0.14 in profit.
What Has ROE Got To Do With Earnings Growth?
Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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 all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.
A Side By Side comparison of Civmec's Earnings Growth And 14% ROE
To begin with, Civmec seems to have a respectable ROE. Especially when compared to the industry average of 7.3% the company's ROE looks pretty impressive. This probably laid the ground for Civmec's significant 36% net income growth seen over the past five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.
We then compared Civmec's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 15% in the same 5-year period.
Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. 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 Civmec is trading on a high P/E or a low P/E, relative to its industry.