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PriceSmart (NASDAQ:PSMT) has had a rough three months with its share price down 8.9%. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on PriceSmart's ROE.
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 PriceSmart
How Is ROE Calculated?
ROE 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 PriceSmart is:
12% = US$138m ÷ US$1.2b (Based on the trailing twelve months to November 2024).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.12 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. 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.
A Side By Side comparison of PriceSmart's Earnings Growth And 12% ROE
At first glance, PriceSmart seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 14%. This probably goes some way in explaining PriceSmart's moderate 11% growth over the past five years amongst other factors.
As a next step, we compared PriceSmart's net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 12% 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. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is PriceSmart fairly valued compared to other companies? These 3 valuation measures might help you decide.