cBrain (CPH: CBRAIN) has had an excellent performance in the equity market with a significant increase in its stock of 46% in the past three months. Since stock prices are generally aligned with a company’s long-term financial performance, we decided to take a closer look at its financial metrics to see if they had a role to play in the recent price movement. . In particular, we will be paying close attention to the ROE of cBrain today.
Return on equity or ROE is a test of how effectively a company increases its value and manages investor money. In short, the ROE shows the profit that each dollar generates compared to the investments of its shareholders.
Check out our latest analysis for cBrain
How do you calculate return on equity?
ROE can be calculated using the formula:
Return on equity = Net income (from continuing operations) ÷ Equity
So, based on the above formula, the ROE for cBrain is:
15% = kr.16m kr.106m (based on the last twelve months up to December 2020).
“Return” refers to a company’s profits over the past year. Another way to look at this is that for every DKK 1 value of equity, the company was able to make a profit of DKK 0.15.
Why is ROE important for profit growth?
We have already established that ROE is an effective indicator of profit generation for a company’s future profits. We now need to assess the profits that the business is reinvesting or “withholding” for future growth, which then gives us an idea of the growth potential of the business. Assuming everything else remains the same, the higher the ROE and profit retention, the higher the growth rate of a business compared to businesses that don’t necessarily have these characteristics.
A side-by-side comparison of cBrain’s profit growth and 15% ROE
For starters, cBrain appears to have a respectable ROE. And comparing with the industry, we found that the industry average ROE is similar at 14%. CBrain’s decent returns are not reflected in cBrain’s five-year average net income growth of 3.9%. Thus, there could be other factors at play that could impact the growth of the business. For example, the company pays out a large portion of its profits as dividends or faces competitive pressures.
Then, comparing with the industry’s net income growth, we found that the reported growth of cBrain was lower than the industry’s growth of 8.6% over the same period, which is not something we like to see.
Profit growth is a huge factor in the valuation of stocks. It is important for an investor to know whether the market has factored in the expected growth (or decline) in company earnings. This then helps them determine whether the stock is set for a bright or dark future. A good indicator of expected earnings growth is the P / E ratio which determines the price the market is willing to pay for a stock based on its earnings outlook. So, you might want to check if cBrain is trading high P / E or low P / E, relative to its industry.
Is cBrain using its profits effectively?
Despite a moderate three-year median payout ratio of 30% (which implies that the company keeps the remaining 70% of its revenue), cBrain’s profit growth was quite weak. So there could be another explanation for this. For example, the business of the company can deteriorate.
Additionally, cBrain paid dividends over a nine-year period, which suggests that sustaining dividend payments is much more important to management, even if it comes at the expense of growing the business. Our latest analyst data shows that the company’s future payout ratio over the next three years is expected to be around 33%. Still, forecasts suggest that cBrain’s future ROE will reach 21%, although the company’s payout ratio is unlikely to change much.
All in all, it seems that cBrain has positive aspects for its business. However, given the high ROE and high profit retention, we would expect the company to show strong profit growth, but this is not the case here. This suggests that there could be an external threat to the business, hampering its growth. That said, looking at current analysts’ estimates, we found that the company’s earnings are expected to accelerate. Are the expectations of these analysts based on general industry expectations or on company fundamentals? Click here to go to our business analyst forecasts page.
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