Trying to determine which ASX shares to buy can be a tough and time-consuming process.
To speed things up, I suggest only focusing on companies which have consistently produced high returns on equity while maintaining little or no debt. Companies which fit these criteria are, in my opinion, usually a pretty good bet over the long-term. Unfortunately, this is not a fool-proof method, but by significantly reducing the number of potential investments there will be more time for in-depth analysis.
What's so good about high return on equity and low debt?
Return on equity is a measure of how well a company has been able to use shareholder capital to generate profit. A company with a high return on equity has been able to generate a large profit relative to the amount of capital invested, while a company with a low return on equity has not.
Debt can help a company increase its level of return on equity, but it can also increase the risk of owning that company. I believe a company that is able to generate a high return on equity while holding little debt is economically superior to those companies that cannot. These are the companies I would prefer to own.
ASX shares with high ROE and low debt
There are a number of ASX listed shares which fit the criteria I have outlined. They include Altium Limited (ASX: ALU), Bellamy's Australia Ltd (ASX: BAL), Pro Medicus Limited (ASX: PME) and Regis Resources Limited (ASX: RRL). All of these ASX shares have generated significant returns back to shareholders over the past 5 years. In particular, Altium and Pro Medicus shares have both produced an average rate of return in excess of 70% per annum. Unfortunately, I don't believe any of these shares are available for fair prices.
Foolish Takeaway
I believe focusing on companies with high returns on equity and low debt is the fastest way to identify high-quality ASX shares. Holding shares in companies with these characteristics has the potential to provide investors with excellent returns.
Unfortunately, this method is not perfect and is best used as a way to narrow down the search. Additionally, an investor will still need to spend time assessing when is a good time to buy and what is an appropriate price to pay for each share. Waiting for an affordable entry price will help maximise returns over the long-term.
