Alpha and Omega Semiconductor (NASDAQ:AOSL) has had a rough three months with its share price down 16%. But if you pay close attention, you might find that its key financial indicators look quite decent, which could mean that the stock could potentially rise in the long-term given how markets usually reward more resilient long-term fundamentals. Particularly, we will be paying attention to Alpha and Omega Semiconductor's ROE today.

Return on equity or ROE is a key measure used to assess how efficiently a company's management is utilizing the company's capital. In other words, it is a profitability ratio which measures the rate of return on the capital provided by the company's shareholders.

View our latest analysis for Alpha and Omega Semiconductor

How Is ROE Calculated?

The formula for ROE is:

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

So, based on the above formula, the ROE for Alpha and Omega Semiconductor is:

1.4% = US$12m ÷ US$884m (Based on the trailing twelve months to June 2023).

The 'return' is the profit over the last twelve months. Another way to think of that is that for every $1 worth of equity, the company was able to earn $0.01 in profit.

What Has ROE Got To Do With Earnings Growth?

So far, we've learned that ROE is a measure of a company's profitability. 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.

Alpha and Omega Semiconductor's Earnings Growth And 1.4% ROE

It is hard to argue that Alpha and Omega Semiconductor's ROE is much good in and of itself. Even when compared to the industry average of 15%, the ROE figure is pretty disappointing. Despite this, surprisingly, Alpha and Omega Semiconductor saw an exceptional 56% net income growth over the past five years. Therefore, there could be other reasons behind this growth. For example, it is possible that the company's management has made some good strategic decisions, or that the company has a low payout ratio.

As a next step, we compared Alpha and Omega Semiconductor'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 31%.

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. If you're wondering about Alpha and Omega Semiconductor's's valuation, check out this gauge of its price-to-earnings ratio, as compared to its industry.

Is Alpha and Omega Semiconductor Using Its Retained Earnings Effectively?

Given that Alpha and Omega Semiconductor doesn't pay any dividend to its shareholders, we infer that the company has been reinvesting all of its profits to grow its business.

Conclusion

In total, it does look like Alpha and Omega Semiconductor has some positive aspects to its business. Despite its low rate of return, the fact that the company reinvests a very high portion of its profits into its business, no doubt contributed to its high earnings growth. On studying current analyst estimates, we found that analysts expect the company to continue its recent growth streak. To know more about the latest analysts predictions for the company, check out this visualization of analyst forecasts for the company.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.