With its stock down 9.5% over the past three months, it is easy to disregard Super Micro Computer (NASDAQ:SMCI). But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Super Micro Computer’s ROE today.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Simply put, it is used to assess the profitability of a company in relation to its equity capital.
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 Super Micro Computer is:
8.6% = US$91m ÷ US$1.1b (Based on the trailing twelve months to March 2021).
The ‘return’ refers to a company’s earnings over the last year. One way to conceptualize this is that for each $1 of shareholders’ capital it has, the company made $0.09 in profit.
What Is The Relationship Between ROE And Earnings Growth?
So far, we’ve learned that ROE is a measure of a company’s profitability. Depending on how much of these profits the company reinvests or “retains”, and how effectively it does so, we are then able to assess a company’s earnings growth potential. 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.
Super Micro Computer’s Earnings Growth And 8.6% ROE
On the face of it, Super Micro Computer’s ROE is not much to talk about. However, its ROE is similar to the industry average of 7.7%, so we won’t completely dismiss the company. On the other hand, Super Micro Computer reported a moderate 8.1% net income growth over the past five years. Taking into consideration that the ROE is not particularly high, we reckon that there could also be other factors at play which could be influencing the company’s growth. For example, it is possible that the company’s management has made some good strategic decisions, or that the company has a low payout ratio.
We then compared Super Micro Computer’s net income growth with the industry and found that the company’s growth figure is lower than the average industry growth rate of 16% in the same period, which is a bit concerning.
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. This then helps them determine if the stock is placed for a bright or bleak future. If you’re wondering about Super Micro Computer’s’s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
Is Super Micro Computer Efficiently Re-investing Its Profits?
In total, it does look like Super Micro Computer has some positive aspects to its business. Namely, its respectable earnings growth, which it achieved due to it retaining most of its profits. However, given the low ROE, investors may not be benefitting from all that reinvestment after all. Having said that, looking at the current analyst estimates, we found that the company’s earnings are expected to gain momentum. To know more about the company’s future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.
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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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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