Most readers would already be aware that Edvantage Group Holdings' (HKG:382) stock increased significantly by 16% over the past week. Given the company's impressive performance, we decided to study its financial indicators more closely as a company's financial health over the long-term usually dictates market outcomes. Specifically, we decided to study Edvantage Group Holdings' ROE in this article.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Edvantage Group Holdings

How Is ROE Calculated?

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 Edvantage Group Holdings is:

18% = CN¥580m ÷ CN¥3.3b (Based on the trailing twelve months to February 2022).

The 'return' is the yearly profit. That means that for every HK$1 worth of shareholders' equity, the company generated HK$0.18 in profit.

Why Is ROE Important For Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. 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.

A Side By Side comparison of Edvantage Group Holdings' Earnings Growth And 18% ROE

To begin with, Edvantage Group Holdings seems to have a respectable ROE. On comparing with the average industry ROE of 9.8% the company's ROE looks pretty remarkable. This probably laid the ground for Edvantage Group Holdings' significant 30% net income growth seen over the past five years. We reckon that there could also be other factors at play here. 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 Edvantage Group Holdings' net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 15% in the same period.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. One 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 prospects. So, you may want to check if Edvantage Group Holdings is trading on a high P/E or a low P/E, relative to its industry.

Is Edvantage Group Holdings Using Its Retained Earnings Effectively?

Edvantage Group Holdings has a three-year median payout ratio of 29% (where it is retaining 71% of its income) which is not too low or not too high. So it seems that Edvantage Group Holdings is reinvesting efficiently in a way that it sees impressive growth in its earnings (discussed above) and pays a dividend that's well covered.

Moreover, Edvantage Group Holdings is determined to keep sharing its profits with shareholders which we infer from its long history of three years of paying a dividend. Upon studying the latest analysts' consensus data, we found that the company is expected to keep paying out approximately 28% of its profits over the next three years. Accordingly, forecasts suggest that Edvantage Group Holdings' future ROE will be 19% which is again, similar to the current ROE.

Summary

In total, we are pretty happy with Edvantage Group Holdings' performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. Having said that, the company's earnings growth is expected to slow down, as forecasted in the current analyst estimates. Are these analysts expectations based on the broad expectations for the industry, or on the company's fundamentals? Click here to be taken to our analyst's forecasts page for the company.

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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.