Avecho Biotechnology's's (ASX:AVE) stock is up by a considerable 200% over the past month. 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. Particularly, we will be paying attention to Avecho Biotechnology's ROE today.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

View our latest analysis for Avecho Biotechnology

The formula for ROE is:

Return on Equity = Net Profit (from continuing operations) Shareholders' Equity

So, based on the above formula, the ROE for Avecho Biotechnology is:

18% = AU$850k AU$4.8m (Based on the trailing twelve months to December 2019).

The 'return' is the income the business earned over the last year. So, this means that for every A$1 of its shareholder's investments, the company generates a profit of A$0.18.

So far, we've learnt that ROE is a measure of a company's profitability. 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.

To begin with, Avecho Biotechnology seems to have a respectable ROE. Further, the company's ROE compares quite favorably to the industry average of 11%. This certainly adds some context to Avecho Biotechnology's exceptional 32% net income growth seen over the past five years. However, there could also be other causes behind this growth. Such as - high earnings retention or an efficient management in place.

Next, on comparing Avecho Biotechnology's net income growth with the industry, we found that the company's reported growth is similar to the industry average growth rate of 32% in the same period.

ASX:AVE Past Earnings Growth April 17th 2020

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. This then helps them determine if the stock is placed for a bright or bleak future. 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 Avecho Biotechnology is trading on a high P/E or a low P/E, relative to its industry.

Avecho Biotechnology doesn't pay any dividend to its shareholders, meaning that the company has been reinvesting all of its profits into the business. This is likely what's driving the high earnings growth number discussed above.

In total, we are pretty happy with Avecho Biotechnology's performance. In particular, it's great to see that the company is investing heavily into its business and along with a high rate of return, that has resulted in a sizeable growth in its earnings.

Story continues

If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Remember, the price of a stock is also dependent on the perceived risk. Therefore investors must keep themselves informed about the risks involved before investing in any company.

You can see the 3 risks we have identified for Avecho Biotechnology by visiting our risks dashboard for free on our platform here.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.

Read more here:
Are Robust Financials Driving The Recent Rally In Avecho Biotechnology Limited's (ASX:AVE) Stock? - Yahoo Finance