In This Article:
REA Group's (ASX:REA) stock is up by a considerable 18% over the past three months. 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 REA Group'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.
Check out our latest analysis for REA Group
How To 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 REA Group is:
19% = AU$293m ÷ AU$1.6b (Based on the trailing twelve months to June 2024).
The 'return' is the yearly profit. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.19 in profit.
Why Is ROE Important For 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.
REA Group's Earnings Growth And 19% ROE
At first glance, REA Group seems to have a decent ROE. On comparing with the average industry ROE of 9.2% the company's ROE looks pretty remarkable. This probably laid the ground for REA Group's moderate 16% net income growth seen over the past five years.
As a next step, we compared REA Group'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 30% in the same period.
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. Doing so will help them establish if the stock's future looks promising or ominous. Is REA Group fairly valued compared to other companies? These 3 valuation measures might help you decide.