Quanta Computer Inc. (TPE:2382) Delivered A Better ROE Than Its Industry

Many investors are still learning about the various metrics that can be useful when analysing a stock. This article is for those who would like to learn about Return On Equity (ROE). By way of learning-by-doing, we'll look at ROE to gain a better understanding of Quanta Computer Inc. (TPE:2382).

Quanta Computer has a ROE of 12%, based on the last twelve months. One way to conceptualize this, is that for each NT$1 of shareholders' equity it has, the company made NT$0.12 in profit.

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How Do I Calculate ROE?

The formula for return on equity is:

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

Or for Quanta Computer:

12% = NT$16b ÷ NT$137b (Based on the trailing twelve months to September 2019.)

Most readers would understand what net profit is, but it’s worth explaining the concept of shareholders’ equity. It is all the money paid into the company from shareholders, plus any earnings retained. You can calculate shareholders' equity by subtracting the company's total liabilities from its total assets.

What Does ROE Mean?

Return on Equity measures a company's profitability against the profit it has kept for the business (plus any capital injections). The 'return' is the amount earned after tax over the last twelve months. The higher the ROE, the more profit the company is making. So, all else equal, investors should like a high ROE. That means it can be interesting to compare the ROE of different companies.

Does Quanta Computer Have A Good Return On Equity?

By comparing a company's ROE with its industry average, we can get a quick measure of how good it is. However, this method is only useful as a rough check, because companies do differ quite a bit within the same industry classification. Pleasingly, Quanta Computer has a superior ROE than the average (9.3%) company in the Tech industry.

That's what I like to see. In my book, a high ROE almost always warrants a closer look. One data point to check is if insiders have bought shares recently.

The Importance Of Debt To Return On Equity

Virtually all companies need money to invest in the business, to grow profits. The cash for investment can come from prior year profits (retained earnings), issuing new shares, or borrowing. In the first and second cases, the ROE will reflect this use of cash for investment in the business. In the latter case, the debt used for growth will improve returns, but won't affect the total equity. In this manner the use of debt will boost ROE, even though the core economics of the business stay the same.

Combining Quanta Computer's Debt And Its 12% Return On Equity

It's worth noting the significant use of debt by Quanta Computer, leading to its debt to equity ratio of 1.53. Its ROE is quite good but, it would have probably been lower without the use of debt. Debt increases risk and reduces options for the company in the future, so you generally want to see some good returns from using it.

In Summary

Return on equity is a useful indicator of the ability of a business to generate profits and return them to shareholders. Companies that can achieve high returns on equity without too much debt are generally of good quality. If two companies have around the same level of debt to equity, and one has a higher ROE, I'd generally prefer the one with higher ROE.

Having said that, while ROE is a useful indicator of business quality, you'll have to look at a whole range of factors to determine the right price to buy a stock. It is important to consider other factors, such as future profit growth -- and how much investment is required going forward. So I think it may be worth checking this free report on analyst forecasts for the company.

If you would prefer check out another company -- one with potentially superior financials -- then do not miss thisfree list of interesting companies, that have HIGH return on equity and low debt.

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.

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