Is CPU Softwarehouse AG's (FRA:CPU2) Stock Price Struggling As A Result Of Its Mixed Financials?

CPU Softwarehouse (FRA:CPU2) has had a rough three months with its share price down 20%. It seems that the market might have completely ignored the positive aspects of the company's fundamentals and decided to weigh-in more on the negative aspects. Long-term fundamentals are usually what drive market outcomes, so it's worth paying close attention. In this article, we decided to focus on CPU Softwarehouse's ROE.

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 CPU Softwarehouse

How To Calculate Return On Equity?

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 CPU Softwarehouse is:

1.2% = €24k ÷ €2.1m (Based on the trailing twelve months to December 2022).

The 'return' is the yearly profit. That means that for every €1 worth of shareholders' equity, the company generated €0.01 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Depending on how much of these profits the company reinvests or "retains", and how effectively it does so, we are then able to assess a company’s earnings growth potential. Assuming all else is equal, companies that have both a higher return on equity and higher profit retention are usually the ones that have a higher growth rate when compared to companies that don't have the same features.

CPU Softwarehouse's Earnings Growth And 1.2% ROE

It is hard to argue that CPU Softwarehouse's ROE is much good in and of itself. Not just that, even compared to the industry average of 13%, the company's ROE is entirely unremarkable. For this reason, CPU Softwarehouse's five year net income decline of 28% is not surprising given its lower ROE. We reckon that there could also be other factors at play here. Such as - low earnings retention or poor allocation of capital.

That being said, we compared CPU Softwarehouse's performance with the industry and were concerned when we found that while the company has shrunk its earnings, the industry has grown its earnings at a rate of 15% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). 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 CPU Softwarehouse's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is CPU Softwarehouse Making Efficient Use Of Its Profits?

Because CPU Softwarehouse doesn't pay any dividends, we infer that it is retaining all of its profits, which is rather perplexing when you consider the fact that there is no earnings growth to show for it. So there might be other factors at play here which could potentially be hampering growth. For example, the business has faced some headwinds.

Summary

In total, we're a bit ambivalent about CPU Softwarehouse's performance. Even though it appears to be retaining most of its profits, given the low ROE, investors may not be benefitting from all that reinvestment after all. The low earnings growth suggests our theory correct. Wrapping up, we would proceed with caution with this company and one way of doing that would be to look at the risk profile of the business. You can see the 5 risks we have identified for CPU Softwarehouse by visiting our risks dashboard for free on our platform here.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.