Stock Analysis

Is A B Cotspin India Limited's (NSE:ABCOTS) 8.9% ROE Worse Than Average?

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NSEI:ABCOTS
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While some investors are already well versed in financial metrics (hat tip), this article is for those who would like to learn about Return On Equity (ROE) and why it is important. To keep the lesson grounded in practicality, we'll use ROE to better understand A B Cotspin India Limited (NSE:ABCOTS).

Return on Equity or ROE is a test of how effectively a company is growing its value and managing investors’ money. Put another way, it reveals the company's success at turning shareholder investments into profits.

Check out the opportunities and risks within the IN Luxury industry.

How To Calculate Return On Equity?

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 A B Cotspin India is:

8.9% = ₹35m ÷ ₹394m (Based on the trailing twelve months to September 2022).

The 'return' is the amount earned after tax over the last twelve months. So, this means that for every ₹1 of its shareholder's investments, the company generates a profit of ₹0.09.

Does A B Cotspin India Have A Good Return On Equity?

Arguably the easiest way to assess company's ROE is to compare it with the average in its industry. Importantly, this is far from a perfect measure, because companies differ significantly within the same industry classification. If you look at the image below, you can see A B Cotspin India has a lower ROE than the average (12%) in the Luxury industry classification.

roe
NSEI:ABCOTS Return on Equity November 30th 2022

Unfortunately, that's sub-optimal. That being said, a low ROE is not always a bad thing, especially if the company has low leverage as this still leaves room for improvement if the company were to take on more debt. A high debt company having a low ROE is a different story altogether and a risky investment in our books. You can see the 3 risks we have identified for A B Cotspin India by visiting our risks dashboard for free on our platform here.

How Does Debt Impact Return On Equity?

Companies usually need to invest money to grow their profits. That cash can come from issuing shares, retained earnings, or debt. In the case of the first and second options, the ROE will reflect this use of cash, for growth. In the latter case, the debt required for growth will boost returns, but will not impact the shareholders' equity. In this manner the use of debt will boost ROE, even though the core economics of the business stay the same.

Combining A B Cotspin India's Debt And Its 8.9% Return On Equity

A B Cotspin India does use a high amount of debt to increase returns. It has a debt to equity ratio of 1.50. Its ROE is quite low, even with the use of significant debt; that's not a good result, in our opinion. Investors should think carefully about how a company might perform if it was unable to borrow so easily, because credit markets do change over time.

Conclusion

Return on equity is one way we can compare its business quality of different companies. Companies that can achieve high returns on equity without too much debt are generally of good quality. If two companies have the same ROE, then I would generally prefer the one with less debt.

But when a business is high quality, the market often bids it up to a price that reflects this. It is important to consider other factors, such as future profit growth -- and how much investment is required going forward. Check the past profit growth by A B Cotspin India by looking at this visualization of past earnings, revenue and cash flow.

Of course A B Cotspin India may not be the best stock to buy. So you may wish to see this free collection of other companies that have high ROE and low debt.

Valuation is complex, but we're helping make it simple.

Find out whether A B Cotspin India is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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