dotdigital Group's (LON:DOTD) stock is up by a considerable 25% over the past three months. Given that the market rewards strong financials in the long-term, we wonder if that is the case in this instance. In this article, we decided to focus on dotdigital 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. In short, ROE shows the profit each dollar generates with respect to its shareholder investments.

See our latest analysis for dotdigital Group

How Is ROE Calculated?

ROE can be calculated by using the formula:

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

So, based on the above formula, the ROE for dotdigital Group is:

16% = UK￡13m ÷ UK￡80m (Based on the trailing twelve months to June 2023).

The 'return' is the income the business earned over the last year. Another way to think of that is that for every ￡1 worth of equity, the company was able to earn ￡0.16 in profit.

Why Is ROE Important For Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. 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 dotdigital Group's Earnings Growth And 16% ROE

At first glance, dotdigital Group seems to have a decent ROE. Further, the company's ROE compares quite favorably to the industry average of 8.5%. This certainly adds some context to dotdigital Group's decent 5.9% net income growth seen over the past five years.

Next, on comparing with the industry net income growth, we found that dotdigital Group's reported growth was lower than the industry growth of 20% over the last few years, which is not something we like to see.

The basis for attaching value to a company is, to a great extent, tied to its earnings growth. It’s important for an investor to know whether the market has priced in the company's expected earnings growth (or decline). This then helps them determine if the stock is placed for a bright or bleak future. Is dotdigital Group fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is dotdigital Group Making Efficient Use Of Its Profits?

dotdigital Group has a low three-year median payout ratio of 22%, meaning that the company retains the remaining 78% of its profits. This suggests that the management is reinvesting most of the profits to grow the business.