With its stock down 10% over the past month, it is easy to disregard Ark Restaurants (NASDAQ:ARKR). But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Specifically, we decided to study Ark Restaurants' ROE in this article.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.
How To Calculate Return On 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 Ark Restaurants is:
9.7% = US$6.1m ÷ US$63m (Based on the trailing twelve months to July 2023).
The 'return' is the amount earned after tax over the last twelve months. One way to conceptualize this is that for each $1 of shareholders' capital it has, the company made $0.10 in profit.
What Has ROE Got To Do With Earnings Growth?
So far, we've learned that ROE is a measure of a company's profitability. 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.
Ark Restaurants' Earnings Growth And 9.7% ROE
At first glance, Ark Restaurants' ROE doesn't look very promising. Next, when compared to the average industry ROE of 17%, the company's ROE leaves us feeling even less enthusiastic. However, we we're pleasantly surprised to see that Ark Restaurants grew its net income at a significant rate of 26% in the last five years. So, there might be other aspects that are positively influencing the company's earnings growth. Such as - high earnings retention or an efficient management in place.
We then compared Ark Restaurants' 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 19% in the same 5-year period.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is Ark Restaurants fairly valued compared to other companies? These 3 valuation measures might help you decide.
Is Ark Restaurants Making Efficient Use Of Its Profits?
Ark Restaurants has a really low three-year median payout ratio of 2.9%, meaning that it has the remaining 97% left over to reinvest into its business. So it looks like Ark Restaurants is reinvesting profits heavily to grow its business, which shows in its earnings growth.
Additionally, Ark Restaurants has paid dividends over a period of at least ten years which means that the company is pretty serious about sharing its profits with shareholders.
In total, it does look like Ark Restaurants has some positive aspects to its business. Even in spite of the low rate of return, the company has posted impressive earnings growth as a result of reinvesting heavily into its business. While we won't completely dismiss the company, what we would do, is try to ascertain how risky the business is to make a more informed decision around the company. You can see the 3 risks we have identified for Ark Restaurants by visiting our risks dashboard for free on our platform here.
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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.