In This Article:
Most readers would already be aware that SDI's (ASX:SDI) stock increased significantly by 13% over the past three months. However, in this article, we decided to focus on its weak fundamentals, as long-term financial performance of a business is what ultimately dictates market outcomes. Specifically, we decided to study SDI's ROE in this article.
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.
View our latest analysis for SDI
How To Calculate Return On Equity?
ROE 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 SDI is:
9.0% = AU$8.0m ÷ AU$89m (Based on the trailing twelve months to December 2023).
The 'return' is the yearly profit. One way to conceptualize this is that for each A$1 of shareholders' capital it has, the company made A$0.09 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. 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 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 SDI's Earnings Growth And 9.0% ROE
When you first look at it, SDI's ROE doesn't look that attractive. However, given that the company's ROE is similar to the average industry ROE of 7.7%, we may spare it some thought. We can see that SDI has grown at a five year net income growth average rate of 2.1%, which is a bit on the lower side. Bear in mind, the company's ROE is not very high . Hence, this does provide some context to low earnings growth seen by the company.
As a next step, we compared SDI's net income growth with the industry and were disappointed to see that the company's growth is lower than the industry average growth of 5.6% in the same period.
Earnings growth is an important metric to consider when valuing a stock. 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. If you're wondering about SDI's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.