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DoubleDown Interactive (NASDAQ:DDI) has had a great run on the share market with its stock up by a significant 24% over the last three months. We wonder if and what role the company's financials play in that price change as a company's long-term fundamentals usually dictate market outcomes. Particularly, we will be paying attention to DoubleDown Interactive's ROE today.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
Check out our latest analysis for DoubleDown Interactive
How Is ROE Calculated?
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 DoubleDown Interactive is:
15% = US$116m ÷ US$786m (Based on the trailing twelve months to June 2024).
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 $0.15 in profit.
What Has ROE Got To Do With 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.
A Side By Side comparison of DoubleDown Interactive's Earnings Growth And 15% ROE
To begin with, DoubleDown Interactive seems to have a respectable ROE. On comparing with the average industry ROE of 12% the company's ROE looks pretty remarkable. Needless to say, we are quite surprised to see that DoubleDown Interactive's net income shrunk at a rate of 21% over the past five years. Therefore, there might be some other aspects that could explain this. These include low earnings retention or poor allocation of capital.
So, as a next step, we compared DoubleDown Interactive's performance against the industry and were disappointed to discover that while the company has been shrinking its earnings, the industry has been growing its earnings at a rate of 22% over the last few years.
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 DoubleDown Interactive is trading on a high P/E or a low P/E, relative to its industry.