Acacia Communications' (NASDAQ:ACIA) stock was mostly flat over the past week. However, attentive investors would probably give more consideration to the stock as the company's fundamentals could add more to the story, given how long-term financials are usually what drive market prices. In this article, we decided to focus on Acacia Communications' ROE.
Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. Put another way, it reveals the company's success at turning shareholder investments into profits.
How Do You Calculate Return On Equity?
ROE 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 Acacia Communications is:
9.5% = US$60m ÷ US$629m (Based on the trailing twelve months to June 2020).
The 'return' is the yearly profit. That means that for every $1 worth of shareholders' equity, the company generated $0.09 in profit.
What Is The Relationship Between ROE And 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 everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.
Acacia Communications' Earnings Growth And 9.5% ROE
At first glance, Acacia Communications' ROE doesn't look very promising. However, the fact that the its ROE is quite higher to the industry average of 6.0% doesn't go unnoticed by us. Still, Acacia Communications has seen a flat net income growth over the past five years. Bear in mind, the company does have a slightly low ROE. It is just that the industry ROE is lower. Hence, this goes some way in explaining the flat earnings growth.
Next, on comparing with the industry net income growth, we found that the industry grew its earnings by3.6% in the same period.
Earnings growth is an important metric to consider when valuing a stock. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. Is ACIA fairly valued? This infographic on the company's intrinsic value has everything you need to know.
Is Acacia Communications Efficiently Re-investing Its Profits?
Acacia Communications doesn't pay any dividend, meaning that the company is keeping all of its profits, which makes us wonder why it is retaining its earnings if it can't use them to grow its business. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.
Overall, we feel that Acacia Communications certainly does have some positive factors to consider. Yet, the low earnings growth is a bit concerning, especially given that the company has a respectable rate of return and is reinvesting a huge portion of its profits. By the looks of it, there could be some other factors, not necessarily in control of the business, that's preventing growth. Up till now, we've only made a short study of the company's growth data. To gain further insights into Acacia Communications' past profit growth, check out this visualization of past earnings, revenue and cash flows.
This article by Simply Wall St is general in nature. 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.
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