Most readers would already be aware that Carbon Studio's (WSE:CRB) stock increased significantly by 99% over the past three months. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. Particularly, we will be paying attention to Carbon Studio's ROE today.
Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.
The formula for return on equity is:
Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity
So, based on the above formula, the ROE for Carbon Studio is:
6.8% = zł787k ÷ zł12m (Based on the trailing twelve months to June 2023).
The 'return' is the amount earned after tax over the last twelve months. Another way to think of that is that for every PLN1 worth of equity, the company was able to earn PLN0.07 in profit.
So far, we've learned that ROE is a measure of a company's profitability. 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.
When you first look at it, Carbon Studio's ROE doesn't look that attractive. Next, when compared to the average industry ROE of 15%, the company's ROE leaves us feeling even less enthusiastic. For this reason, Carbon Studio's five year net income decline of 2.7% is not surprising given its lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For instance, the company has a very high payout ratio, or is faced with competitive pressures.
However, when we compared Carbon Studio's growth with the industry we found that while the company's earnings have been shrinking, the industry has seen an earnings growth of 23% in the same period. This is quite worrisome.
Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Is Carbon Studio fairly valued compared to other companies? These 3 valuation measures might help you decide.
Because Carbon Studio doesn't pay any dividends, we infer that it is retaining all of its profits, which is rather perplexing when you consider the fact that there is no earnings growth to show for it. So there could be some other explanations in that regard. For instance, the company's business may be deteriorating.
Overall, we have mixed feelings about Carbon Studio. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. Our risks dashboard would have the 5 risks we have identified for Carbon Studio.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.