It is hard to get excited after looking at Iofina's (LON:IOF) recent performance, when its stock has declined 26% over the past three months. However, stock prices are usually driven by a company’s financial performance over the long term, which in this case looks quite promising. Specifically, we decided to study Iofina's ROE in this article.

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. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

View our latest analysis for Iofina

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 Iofina is:

23% = US$9.5m ÷ US$42m (Based on the trailing twelve months to June 2023).

The 'return' is the amount earned after tax over the last twelve months. That means that for every ￡1 worth of shareholders' equity, the company generated ￡0.23 in profit.

What Has ROE Got To Do With 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.

Iofina's Earnings Growth And 23% ROE

First thing first, we like that Iofina has an impressive ROE. Secondly, even when compared to the industry average of 9.8% the company's ROE is quite impressive. As a result, Iofina's exceptional 67% net income growth seen over the past five years, doesn't come as a surprise.

As a next step, we compared Iofina's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 5.8%.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. 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. One good indicator of expected earnings growth is the P/E ratio which determines the price the market is willing to pay for a stock based on its earnings prospects. So, you may want to check if Iofina is trading on a high P/E or a low P/E, relative to its industry.