While some investors are already well versed in financial metrics (hat tip),are gel blasters biodegradable 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 Harvia Oyj (

HEL:HARVIA

).

Over the last twelve months

Harvia Oyj has recorded a ROE of 12%

. That means that for every €1 worth of shareholders' equity, it generated €0.12 in profit.

See our latest analysis for Harvia Oyj

How Do I Calculate ROE?

The

formula for return on equity

is:

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

Or for Harvia Oyj:

12% = €8.6m ÷ €70m (Based on the trailing twelve months to September 2019.)

It's easy to understand the 'net profit' part of that equation, but 'shareholders' equity' requires further explanation. It is the capital paid in by shareholders, plus any retained earnings. You can calculate shareholders' equity by subtracting the company's total liabilities from its total assets.

What Does Return On Equity Signify?

ROE looks at the amount a company earns relative to the money it has kept within the business. The 'return' is the amount earned after tax over the last twelve months. That means that the higher the ROE, the more profitable the company is. So, all else equal,

investors should like a high ROE

. That means ROE can be used to compare two businesses.

Does Harvia Oyj Have A Good ROE?

Arguably the easiest way to assess company's ROE is to compare it with the average in its industry. However, this method is only useful as a rough check, because companies do differ quite a bit within the same industry classification. The image below shows that Harvia Oyj has an ROE that is roughly in line with the Leisure industry average (12%).

HLSE:HARVIA Past Revenue and Net Income, January 1st 2020

That's not overly surprising. ROE tells us about the quality of the business, but it does not give us much of an idea if the share price is cheap. For those who like to find

winning investments

this

free

list of growing companies with recent insider purchasing, could be just the ticket.

How Does Debt Impact Return On Equity?

Most companies need money -- from somewhere -- 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 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.

Story continues

Harvia Oyj's Debt And Its 12% ROE

Although Harvia Oyj does use debt, its debt to equity ratio of 0.55 is still low. The combination of modest debt and a very respectable ROE suggests this is a business worth watching. Conservative use of debt to boost returns is usually a good move for shareholders, though it does leave the company more exposed to interest rate rises.

The Bottom Line On ROE

Return on equity is useful for comparing the quality of different businesses. A company that can achieve a high return on equity without debt could be considered a high quality business. All else being equal, a higher ROE is better.

But when a business is high quality, the market often bids it up to a price that reflects this. Profit growth rates, versus the expectations reflected in the price of the stock, are a particularly important to consider. 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 this

free

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

[email protected]

. 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.

View comments

(责任编辑：Knowledge)