While some investors are already well versed in financial metrics (hat tip),can i use expired matcha powder this article is for those who would like to learn about Return On Equity (ROE) and why it is important. By way of learning-by-doing, we’ll look at ROE to gain a better understanding of Evergrande Health Industry Group Limited (

HKG:708

).

Evergrande Health Industry Group has a ROE of 43%

, based on the last twelve months. That means that for every HK$1 worth of shareholders’ equity, it generated HK$0.43 in profit.

View our latest analysis for Evergrande Health Industry Group

How Do You Calculate ROE?

The

formula for ROE

is:

Return on Equity = Net Profit ÷ Shareholders’ Equity

Or for Evergrande Health Industry Group:

43% = 441.497 ÷ CN¥1.0b (Based on the trailing twelve months to June 2018.)

Most know that net profit is the total earnings after all expenses, but the concept of shareholders’ equity is a little more complicated. It is the capital paid in by shareholders, plus any retained earnings. The easiest way to calculate shareholders’ equity is to subtract the company’s total liabilities from the total assets.

What Does ROE Mean?

ROE measures a company’s profitability against the profit it retains, and any outside investments. The ‘return’ is the profit over the last twelve months. That means that the higher the ROE, the more profitable the company is. So, all else being equal,

a high ROE is better than a low one

. That means it can be interesting to compare the ROE of different companies.

Does Evergrande Health Industry Group Have A Good Return On Equity?

Arguably the easiest way to assess company’s ROE is to compare it with the average in its industry. The limitation of this approach is that some companies are quite different from others, even within the same industry classification. Pleasingly, Evergrande Health Industry Group has a superior ROE than the average (9.7%) company in the Media industry.

SEHK:708 Last Perf January 2nd 19

That’s what I like to see. We think a high ROE, alone, is usually enough to justify further research into a company. For example

you might check

if insiders are buying shares.

How Does Debt Impact ROE?

Companies usually need to invest money to grow their profits. That cash can come from retained earnings, issuing new shares (equity), or debt. In the first and second cases, the ROE will reflect this use of cash for investment in the business. In the latter case, the debt used for growth will improve returns, but won’t affect the total equity. Thus the use of debt can improve ROE, albeit along with extra risk in the case of stormy weather, metaphorically speaking.

Story continues

Combining Evergrande Health Industry Group’s Debt And Its 43% Return On Equity

It appears that Evergrande Health Industry Group makes extensive use of debt to improve its returns, because it has a relatively high debt to equity ratio of 4.85. Its ROE is no doubt quite impressive, but it would probably be a lot lower without the use of significant leverage.

In Summary

Return on equity is a useful indicator of the ability of a business to generate profits and return them to shareholders. In my book the highest quality companies have high return on equity, despite low debt. If two companies have around the same level of debt to equity, and one has a higher ROE, I’d generally prefer the one with higher ROE.

But when a business is high quality, the market often bids it up to a price that reflects this. Profit growth rates, versus the expectations reflected in the price of the stock, are a particularly important to consider. You can see how the company has grow in the past by looking at this FREE

detailed graph

of past earnings, revenue and cash flow

.

Of course,

you might find a fantastic investment by looking elsewhere.

So take a peek at this

free

list of interesting companies.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at

[email protected]

.

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