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Frequentis' (ETR:FQT) stock is up by a considerable 17% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. Specifically, we decided to study Frequentis' 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 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 Frequentis
How To Calculate Return On Equity?
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Frequentis is:
13% = €20m ÷ €156m (Based on the trailing twelve months to December 2023).
The 'return' is the yearly profit. Another way to think of that is that for every €1 worth of equity, the company was able to earn €0.13 in profit.
What Is The Relationship Between ROE And Earnings Growth?
We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.
Frequentis' Earnings Growth And 13% ROE
To start with, Frequentis' ROE looks acceptable. And on comparing with the industry, we found that the the average industry ROE is similar at 12%. Consequently, this likely laid the ground for the impressive net income growth of 21% seen over the past five years by Frequentis. However, there could also be other drivers behind this 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 Frequentis' growth is quite high when compared to the industry average growth of 12% 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. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Has the market priced in the future outlook for FQT? You can find out in our latest intrinsic value infographic research report.