Most readers would already be aware that First Advantage’s (NASDAQ:FA) stock increased significantly by 8.8% over the past month. We wonder if and what role the company’s financials play in that price change as a company’s long-term fundamentals usually dictate market outcomes. Specifically, we decided to study First Advantage’s 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 simpler terms, it measures the profitability of a company in relation to shareholder’s equity.
Check out our latest analysis for First Advantage
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 First Advantage is:
0.5% = US$4.9m ÷ US$921m (Based on the trailing twelve months to September 2024).
The ‘return’ is the amount earned after tax over the last twelve months. That means that for every $1 worth of shareholders’ equity, the company generated $0.01 in profit.
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.
As you can see, First Advantage’s ROE looks pretty weak. Even compared to the average industry ROE of 19%, the company’s ROE is quite dismal. First Advantage was still able to see a decent net income growth of 19% over the past five years. Therefore, the growth in earnings could probably have been caused by other variables. 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.
As a next step, we compared First Advantage’s net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 11%.
The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. If you’re wondering about First Advantage’s’s valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.
