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With its stock down 8.5% over the past three months, it is easy to disregard Clinuvel Pharmaceuticals (ASX:CUV). However, a closer look at its sound financials might cause you to think again. Given that fundamentals usually drive long-term market outcomes, the company is worth looking at. Particularly, we will be paying attention to Clinuvel Pharmaceuticals' 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 Clinuvel Pharmaceuticals
How Do You Calculate Return On Equity?
Return on equity 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 Clinuvel Pharmaceuticals is:
26% = AU$15m ÷ AU$58m (Based on the trailing twelve months to June 2020).
The 'return' is the yearly profit. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.26.
Why Is ROE Important For 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.
Clinuvel Pharmaceuticals' Earnings Growth And 26% ROE
To begin with, Clinuvel Pharmaceuticals has a pretty high ROE which is interesting. Second, a comparison with the average ROE reported by the industry of 10% also doesn't go unnoticed by us. As a result, Clinuvel Pharmaceuticals' exceptional 68% net income growth seen over the past five years, doesn't come as a surprise.
Next, on comparing with the industry net income growth, we found that Clinuvel Pharmaceuticals' growth is quite high when compared to the industry average growth of 33% in the same period, which is great to see.
Earnings growth is a huge factor in stock valuation. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. If you're wondering about Clinuvel Pharmaceuticals''s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.