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Most readers would already be aware that Franchise Brands' (LON:FRAN) stock increased significantly by 6.3% over the past month. As most would know, fundamentals are what usually guide market price movements over the long-term, so we decided to look at the company's key financial indicators today to determine if they have any role to play in the recent price movement. In this article, we decided to focus on Franchise Brands' ROE.
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 Franchise Brands
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 Franchise Brands is:
0.9% = UK£1.9m ÷ UK£212m (Based on the trailing twelve months to June 2023).
The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each £1 of shareholders' capital it has, the company made £0.01 in profit.
Why Is ROE Important For 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 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.
Franchise Brands' Earnings Growth And 0.9% ROE
As you can see, Franchise Brands' ROE looks pretty weak. Even compared to the average industry ROE of 6.2%, the company's ROE is quite dismal. However, the moderate 17% net income growth seen by Franchise Brands over the past five years is definitely a positive. We believe that there might be other aspects that are positively influencing the company's earnings 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 Franchise Brands' growth is quite high when compared to the industry average growth of 6.8% 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. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. If you're wondering about Franchise Brands''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.