Should you be excited about the 12% return on equity of PBA Infrastructure Limited (NSE: PBAINFRA)?
While some investors are already familiar with financial metrics (hat tip), this article is for those who want to learn more about return on equity (ROE) and why it is important. As a learning by doing, we will look at the ROE to better understand PBA Infrastructure Limited (NSE: PBAINFRA).
Return on equity or ROE is an important factor for a shareholder to consider because it tells them how efficiently their capital is being reinvested. In simpler terms, it measures a company’s profitability relative to equity.
Check out our latest analysis for PBA infrastructure
How to calculate return on equity?
Return on equity can be calculated using the formula:
Return on equity = Net income (from continuing operations) Ã· Equity
Thus, based on the above formula, the ROE of the PBA infrastructure is:
12% = â¹ 19m â¹ 152m (Based on the last twelve months up to June 2021).
The âreturnâ is the annual profit. This means that for every 1 of equity, the company generated â¹ 0.12 in profit.
Does PBA infrastructure have a good return on equity?
A simple way to determine if a company has a good return on equity is to compare it to the average in its industry. It is important to note that this measure is far from perfect, as companies differ considerably within a single industry classification. Fortunately, PBA Infrastructure has an above-average ROE (7.7%) for the construction industry.
This is clearly a positive point. However, keep in mind that a high ROE does not necessarily indicate efficient profit generation. Besides changes in net income, high ROE can also be the result of high leverage to equity, which indicates risk. To know the 5 risks that we have identified for PBA Infrastructure, visit our risk dashboard for free.
Why You Should Consider Debt When Looking At ROE
Businesses generally need to invest money to increase their profits. The money for the investment can come from the profits of the previous year (retained earnings), from the issuance of new shares or from loans. In the first two cases, the ROE will capture this use of capital to grow. In the latter case, the debt necessary for growth will increase returns, but will have no impact on equity. This will make the ROE better than if no debt was used.
PBA Infrastructure’s debt and its ROE of 12%
It appears that PBA Infrastructure is largely using debt to improve its returns, as its debt-to-equity ratio is an alarming 28.31. The combination of a rather low ROE and a high debt ratio is negative, in our book.
Return on equity is useful for comparing the quality of different companies. A business that can earn a high return on equity without going into debt could be considered a high quality business. If two companies have the same ROE, then I would generally prefer the one with the least amount of debt.
But ROE is only one piece of a bigger puzzle, as high-quality companies often trade at high earnings multiples. The rate at which earnings are likely to grow, relative to earnings growth expectations reflected in the current price, should also be considered. So I think it’s worth checking this out free this detailed graphic past earnings, income and cash flow.
Sure, you might find a fantastic investment looking elsewhere. So take a look at this free list of interesting companies.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St does not have any position in the mentioned stocks.
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