In This Article:
It is hard to get excited after looking at Fabasoft's (ETR:FAA) recent performance, when its stock has declined 14% over the past three months. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Fundamentals usually dictate market outcomes so it makes sense to study the company's financials. In this article, we decided to focus on Fabasoft's 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
View our latest analysis for Fabasoft
How Do You Calculate Return On Equity?
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 Fabasoft is:
29% = €9.0m ÷ €31m (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 €0.29 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Fabasoft's Earnings Growth And 29% ROE
First thing first, we like that Fabasoft has an impressive ROE. Second, a comparison with the average ROE reported by the industry of 15% also doesn't go unnoticed by us. However, we are curious as to how the high returns still resulted in a flat growth for Fabasoft in the past five years. We reckon that there could be some other factors at play here that's limiting the company's growth. For example, it could be that the company has a high payout ratio or the business has allocated capital poorly, for instance.
We then compared Fabasoft's net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 10% in the same 5-year period, which is a bit concerning.
Earnings growth is an important metric to consider when valuing a stock. 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. 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 Fabasoft is trading on a high P/E or a low P/E, relative to its industry.