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One of the best investments we can make is in our own knowledge and skill set. With that in mind, this article will work through how we can use Return On Equity (ROE) to better understand a business. Well use ROE to examine Universal Vision Biotechnology Co., Ltd. (GTSM:3218), by way of a worked example.

Over the last twelve months Universal Vision Biotechnology has recorded a ROE of 11%. That means that for every NT$1 worth of shareholders equity, it generated NT$0.11 in profit.

Check out our latest analysis for Universal Vision Biotechnology

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) Shareholders Equity

Or for Universal Vision Biotechnology:

11% = NT$183m NT$1.6b (Based on the trailing twelve months to September 2019.)

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. Shareholders equity can be calculated by subtracting the total liabilities of the company from the total assets of the company.

ROE looks at the amount a company earns relative to the money it has kept within the business. The return is the yearly profit. That means that the higher the ROE, the more profitable the company is. So, all else equal, investors should like a high ROE. That means it can be interesting to compare the ROE of different companies.

One simple way to determine if a company has a good return on equity is to compare it to the average for its industry. The limitation of this approach is that some companies are quite different from others, even within the same industry classification. Pleasingly, Universal Vision Biotechnology has a superior ROE than the average (8.8%) company in the Healthcare industry.

That is a good sign. 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.

Companies usually need to invest money to grow their profits. That cash can come from issuing shares, retained earnings, or debt. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the debt required for growth will boost returns, but will not impact the shareholders equity. In this manner the use of debt will boost ROE, even though the core economics of the business stay the same.

While Universal Vision Biotechnology does have a tiny amount of debt, with debt to equity of just 0.051, we think the use of debt is very modest. The fact that it achieved a fairly good ROE with only modest debt suggests the business might be worth putting on your watchlist. Judicious use of debt to improve returns can certainly be a good thing, although it does elevate risk slightly and reduce future optionality.

Return on equity is useful for comparing the quality of different businesses. 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, Id generally prefer the one with higher ROE.

But ROE is just one piece of a bigger puzzle, since high quality businesses often trade on high multiples of earnings. Profit growth rates, versus the expectations reflected in the price of the stock, are a particularly important to consider. Check the past profit growth by Universal Vision Biotechnology by looking at this visualization 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.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.

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Should You Be Impressed By Universal Vision Biotechnology Co., Ltd.s (GTSM:3218) ROE? - Simply Wall St

This entry was posted on January 12, 2020 at 2:41 pm and is filed under Biotechnology. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed. |