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With its stock down 13% over the past month, it is easy to disregard Spectra Systems (LON:SPSY). But if you pay close attention, you might gather that its strong financials could mean that the stock could potentially see an increase in value in the long-term, given how markets usually reward companies with good financial health. Particularly, we will be paying attention to Spectra Systems' 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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
View our latest analysis for Spectra Systems
How Do You Calculate Return On Equity?
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 Spectra Systems is:
19% = US$6.0m ÷ US$32m (Based on the trailing twelve months to December 2023).
The 'return' refers to a company's earnings over the last year. That means that for every £1 worth of shareholders' equity, the company generated £0.19 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. 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
A Side By Side comparison of Spectra Systems' Earnings Growth And 19% ROE
To begin with, Spectra Systems seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 11%. Probably as a result of this, Spectra Systems was able to see a decent growth of 15% over the last five years.
Next, on comparing with the industry net income growth, we found that Spectra Systems' growth is quite high when compared to the industry average growth of 10% in the same period, which is great to see.
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). Doing so will help them establish if the stock's future looks promising or ominous. If you're wondering about Spectra Systems''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.