Is PSI Software AG's (ETR:PSAN) Latest Stock Performance A Reflection Of Its Financial Health?

Most readers would already be aware that PSI Software's (ETR:PSAN) stock increased significantly by 29% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on PSI Software's ROE.

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.

See our latest analysis for PSI Software

How Is ROE Calculated?

Return on equity 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 PSI Software is:

14% = €14m ÷ €96m (Based on the trailing twelve months to March 2020).

The 'return' is the profit over the last twelve months. One way to conceptualize this is that for each €1 of shareholders' capital it has, the company made €0.14 in profit.

Why Is ROE Important For Earnings Growth?

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

PSI Software's Earnings Growth And 14% ROE

At first glance, PSI Software seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 14%. This certainly adds some context to PSI Software's moderate 17% net income growth seen over the past five years.

As a next step, we compared PSI Software'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 8.9%.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. By doing so, they will have an idea if the stock is headed into clear blue waters or if swampy waters await. What is PSAN worth today? The intrinsic value infographic in our free research report helps visualize whether PSAN is currently mispriced by the market.

Is PSI Software Making Efficient Use Of Its Profits?

PSI Software has a healthy combination of a moderate three-year median payout ratio of 37% (or a retention ratio of 63%) and a respectable amount of growth in earnings as we saw above, meaning that the company has been making efficient use of its profits.

Besides, PSI Software has been paying dividends for at least ten years or more. This shows that the company is committed to sharing profits with its shareholders. Our latest analyst data shows that the future payout ratio of the company over the next three years is expected to be approximately 36%. Therefore, the company's future ROE is also not expected to change by much with analysts predicting an ROE of 15%.

Conclusion

In total, we are pretty happy with PSI Software's performance. Particularly, we like that the company is reinvesting heavily into its business, and at a high rate of return. Unsurprisingly, this has led to an impressive earnings growth. The latest industry analyst forecasts show that the company is expected to maintain its current growth rate. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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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.
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