BioSpecifics Technologies (NASDAQ:BSTC) has had a great run on the share market with its stock up by a significant 9.6% over the last 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. In this article, we decided to focus on BioSpecifics Technologies' ROE.
Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.
How To 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 BioSpecifics Technologies is:
20% = US$24m ÷ US$124m (Based on the trailing twelve months to December 2019).
The 'return' is the income the business earned over the last year. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.20 in profit.
What Is The Relationship Between ROE And Earnings Growth?
Thus far, we have learnt that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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.
BioSpecifics Technologies' Earnings Growth And 20% ROE
To begin with, BioSpecifics Technologies seems to have a respectable ROE. Even when compared to the industry average of 19% the company's ROE looks quite decent. This certainly adds some context to BioSpecifics Technologies' exceptional 26% net income growth seen over the past five years. However, there could also be other drivers behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.
As a next step, we compared BioSpecifics Technologies' net income growth with the industry and found that the company has a similar growth figure when compared with the industry average growth rate of 24% 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. Doing so will help them establish if the stock's future looks promising or ominous. 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 BioSpecifics Technologies is trading on a high P/E or a low P/E, relative to its industry.
Is BioSpecifics Technologies Using Its Retained Earnings Effectively?
BioSpecifics Technologies doesn't pay any dividend currently which essentially means that it has been reinvesting all of its profits into the business. This definitely contributes to the high earnings growth number that we discussed above.
In total, we are pretty happy with BioSpecifics Technologies' 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.
If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Simply Wall St has no position in the stocks mentioned.
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