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Should Weakness in Ovid Therapeutics Inc.'s (NASDAQ:OVID) Stock Be Seen As A Sign That Market Will Correct The Share Price Given Decent Financials?

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It is hard to get excited after looking at Ovid Therapeutics' (NASDAQ:OVID) recent performance, when its stock has declined 7.8% over the past month. However, stock prices are usually driven by a company’s financials over the long term, which in this case look pretty respectable. In this article, we decided to focus on Ovid Therapeutics' ROE.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

Check out our latest analysis for Ovid Therapeutics

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 Ovid Therapeutics is:

52% = US$115m ÷ US$221m (Based on the trailing twelve months to March 2021).

The 'return' is the income the business earned over the last year. That means that for every $1 worth of shareholders' equity, the company generated $0.52 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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.

Ovid Therapeutics' Earnings Growth And 52% ROE

To begin with, Ovid Therapeutics has a pretty high ROE which is interesting. Secondly, even when compared to the industry average of 18% the company's ROE is quite impressive. Despite this, Ovid Therapeutics' five year net income growth was quite low averaging at only 4.0%. That's a bit unexpected from a company which has such a high rate of return. Such a scenario is likely to take place when a company pays out a huge portion of its earnings as dividends, or is faced with competitive pressures.

We then compared Ovid Therapeutics' net income growth with the industry and found that the company's growth figure is lower than the average industry growth rate of 26% in the same period, which is a bit concerning.

past-earnings-growth
past-earnings-growth

Earnings growth is a huge factor in stock valuation. 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 Ovid Therapeutics fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Ovid Therapeutics Using Its Retained Earnings Effectively?

Summary

Overall, we feel that Ovid Therapeutics certainly does have some positive factors to consider. However, given the high ROE and high profit retention, we would expect the company to be delivering strong earnings growth, but that isn't the case here. This suggests that there might be some external threat to the business, that's hampering its growth. That being so, according to the latest industry analyst forecasts, the company's earnings are expected to shrink in the future. To know more about the company's future earnings growth forecasts take a look at this free report on analyst forecasts for the company to find out more.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.