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BSA (ASX:BSA) has had a great run on the share market with its stock up by a significant 10% over the last three months. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Particularly, we will be paying attention to BSA's ROE today.
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. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
See our latest analysis for BSA
How Do You Calculate Return On Equity?
The formula for ROE is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for BSA is:
24% = AU$7.8m ÷ AU$32m (Based on the trailing twelve months to June 2020).
The 'return' is the profit over the last twelve months. Another way to think of that is that for every A$1 worth of equity, the company was able to earn A$0.24 in profit.
Why Is ROE Important For Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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. 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.
BSA's Earnings Growth And 24% ROE
First thing first, we like that BSA has an impressive ROE. Secondly, even when compared to the industry average of 15% the company's ROE is quite impressive. Under the circumstances, BSA's considerable five year net income growth of 40% was to be expected.
We then compared BSA's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 14% in the same period.
Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about BSA's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is BSA Using Its Retained Earnings Effectively?
BSA's three-year median payout ratio is a pretty moderate 40%, meaning the company retains 60% of its income. So it seems that BSA is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.