With its stock down 5.6% over the past three months, it is easy to disregard Rave Restaurant Group (NASDAQ:RAVE). However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. In this article, we decided to focus on Rave Restaurant Group'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.

Check out our latest analysis for Rave Restaurant Group

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 Rave Restaurant Group is:

19% = US$2.2m ÷ US$12m (Based on the trailing twelve months to March 2024).

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 $0.19.

What Is The Relationship Between ROE And Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. 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. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don’t share these attributes.

A Side By Side comparison of Rave Restaurant Group's Earnings Growth And 19% ROE

At first glance, Rave Restaurant Group seems to have a decent ROE. And on comparing with the industry, we found that the the average industry ROE is similar at 18%. Consequently, this likely laid the ground for the impressive net income growth of 43% seen over the past five years by Rave Restaurant Group. However, there could also be other drivers behind this growth. Such as - high earnings retention or an efficient management in place.

We then compared Rave Restaurant Group's net income growth with the industry and we're pleased to see that the company's growth figure is higher when compared with the industry which has a growth rate of 29% in the same 5-year period.

Earnings growth is an important metric to consider when valuing a stock. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). Doing so will help them establish if the stock's future looks promising or ominous. Is Rave Restaurant Group fairly valued compared to other companies? These 3 valuation measures might help you decide.