In This Article:
Shake Shack (NYSE:SHAK) has had a rough week with its share price down 12%. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. Particularly, we will be paying attention to Shake Shack's ROE today.
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 simpler terms, it measures the profitability of a company in relation to shareholder's equity.
Check out our latest analysis for Shake Shack
How Is ROE Calculated?
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 Shake Shack is:
1.8% = US$8.7m ÷ US$479m (Based on the trailing twelve months to September 2024).
The 'return' is the income the business earned over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.02 in profit.
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. 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.
Shake Shack's Earnings Growth And 1.8% ROE
As you can see, Shake Shack's ROE looks pretty weak. Even when compared to the industry average of 12%, the ROE figure is pretty disappointing. Although, we can see that Shake Shack saw a modest net income growth of 17% over the past five years. Therefore, the growth in earnings could probably have been caused by other variables. Such as - high earnings retention or an efficient management in place.
As a next step, we compared Shake Shack'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 33% in the same period.
Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is SHAK fairly valued? This infographic on the company's intrinsic value has everything you need to know.