Anglo Asian Mining (LON:AAZ) has had a great run on the share market with its stock up by a significant 70% over the last month. However, we decided to pay attention to the company's fundamentals which don't appear to give a clear sign about the company's financial health. In this article, we decided to focus on Anglo Asian Mining's ROE.

ROE or return on equity is a useful tool to assess how effectively a company can generate returns on the investment it received from its shareholders. Simply put, it is used to assess the profitability of a company in relation to its equity capital.

See our latest analysis for Anglo Asian Mining

How Is ROE Calculated?

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 Anglo Asian Mining is:

0.9% = US$998k ÷ US$115m (Based on the trailing twelve months to June 2023).

The 'return' is the profit over the last twelve months. That means that for every ￡1 worth of shareholders' equity, the company generated ￡0.01 in profit.

Why Is ROE Important For Earnings Growth?

We have already established that ROE serves as an efficient profit-generating gauge for a company's future earnings. We now need to evaluate how much profit the company reinvests or "retains" for future growth which then gives us an idea about the growth potential of the company. Assuming everything else remains unchanged, the higher the ROE and profit retention, the higher the growth rate of a company compared to companies that don't necessarily bear these characteristics.

Anglo Asian Mining's Earnings Growth And 0.9% ROE

It is hard to argue that Anglo Asian Mining's ROE is much good in and of itself. Even compared to the average industry ROE of 9.8%, the company's ROE is quite dismal. Therefore, it might not be wrong to say that the five year net income decline of 22% seen by Anglo Asian Mining was possibly a result of it having a lower ROE. We believe that there also might be other aspects that are negatively influencing the company's earnings prospects. For example, the business has allocated capital poorly, or that the company has a very high payout ratio.

That being said, we compared Anglo Asian Mining'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 18% in the same 5-year period.

Earnings growth is a huge factor in stock valuation. What investors need to determine next is if the expected earnings growth, or the lack of it, is already built into the share price. This then helps them determine if the stock is placed for a bright or bleak future. Is AAZ fairly valued? This infographic on the company's intrinsic value has everything you need to know.