Should you be excited about Progress Software Corporation’s (NASDAQ: PRGS) 20% return on equity?

One of the best investments we can make is in our own knowledge and skills. With that in mind, this article will discuss how we can use Return on Equity (ROE) to better understand a business. We’ll use the ROE to take a look at Progress Software Corporation (NASDAQ: PRGS), using a real-world example.

ROE or return on equity is a useful tool to assess how effectively a company can generate the returns on investment it has received from its shareholders. In other words, it is a profitability ratio that measures the rate of return on capital contributed by the shareholders of the company.

How to calculate return on equity?

Return on equity can be calculated using the formula:

Return on equity = Net income (from continuing operations) ÷ Equity

Thus, based on the above formula, the ROE of the Progress software is:

20% = US $ 81 million ÷ US $ 397 million (based on the last twelve months to August 2021).

The “return” is the amount earned after tax over the past twelve months. One way to conceptualize this is that for every $ 1 of shareholder capital it has, the company has made $ 0.20 in profit.

Does Progress Software have a good ROE?

An easy way to determine if a company has a good return on equity is to compare it to the average in its industry. It is important to note that this measure is far from perfect, as companies differ considerably within a single industry classification. Fortunately, Progress Software has an above-average ROE (11%) for the software industry.

NasdaqGS: PRGS Return on Equity December 24, 2021

This is what we love to see. However, keep in mind that a high ROE does not necessarily indicate efficient profit generation. Besides changes in net income, high ROE can also be the result of high leverage to equity, which indicates risk. Our risk dashboardshould have the 2 risks we identified for Progress Software.

What is the impact of debt on ROE?

Businesses generally need to invest money to increase their profits. This liquidity can come from retained earnings, the issuance of new shares (equity) or debt. In the first and second cases, the ROE will reflect this use of cash for investing in the business. In the latter case, the debt used for growth will improve returns, but will not affect total equity. In this way, the use of debt will increase the ROE, even if the basic economy of the business remains the same.

Progress Software’s debt and its 20% ROE

Progress Software uses a high amount of debt to increase returns. Its debt-to-equity ratio is 1.43. While its ROE is respectable, it should be borne in mind that there is usually a limit on how much debt a business can use. Investors should think carefully about how a business will perform if it weren’t able to borrow so easily, as credit markets change over time.

Summary

Return on equity is useful for comparing the quality of different companies. In our books, the highest quality companies have a high return on equity, despite low leverage. If two companies have roughly the same level of debt to equity and one has a higher ROE, I would generally prefer the one with a higher ROE.

But ROE is only one piece of a bigger puzzle, as high-quality companies often trade at high earnings multiples. It is important to take into account other factors, such as future profit growth and the amount of investment required for the future. So you may want to check this out for FREE viewing analyst forecasts for the company.

Sure, you might find a fantastic investment looking elsewhere. So take a look at this free list of interesting companies.

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